The Stock-Flow Approach to the Real Exchange Rate of CEE Transition Economies

Abstract

This paper investigates the determinants of equilibrium real exchange rates for the new EU member states and candidate countries, relying on an asset model inspired by Aglietta et al. (1998) and Alberola et al. (1999, 2002). The impact of productivity gains on both the Balassa-Samuelson effect and the behaviour of the tradable real exchange rate is especially assessed. Subdividing the panel into sub-panels, we show that the B-S effect is a common feature to all economies, but that the tradable price-based real appreciation is a distinct feature of transition and emerging economies. We also show that in transition countries, a decrease in net foreign assets leads to an appreciation of the real exchange rate, instead of the depreciation predicted by theory. Comparing in-sample and out-of-sample estimates (in terms of the country coverage) of equilibrium exchange rates shows that these measures can yield different results, and could therefore be considered as complementary tools in judging misalignments

Keywords: Real equilibrium exchange rate, EU enlargement, Balassa-Samuelson effect, productivity, net foreign assets, out-of sample panel

JEL Classification: C15, E31, F31, O11, P17