Showing papers on "Exchange rate published in 1986"

Pricing to Market when the Exchange Rate Changes

Abstract: It has been widely remarked that US import prices have not fully reflected movements in the exchange rate. This paper begins with an investigation of the actual extent of "pricing to market" by foreign suppliers. It shows that pricing to market is a real phenomenon, but not universal; in particular, evidence on German export prices suggests that stickiness of import prices is largely confined to machinery and transport equipment. The paper then considers a number of possible models. While the evidence is not sufficient to distinguish among thesemodels, it seems probable that a full explanation will involve both dynamics and imperfect competition.

Persistent Trade Effects of Large Exchage Rate Shocks

Abstract: This paper presents a theoretical basis fcr the srgunent that large exchange rate shocks - such as the rise of the dollar from 1980 to 1985 - may shift historical relationships between exchange rates and trade flows. We begin with partial models in which large exchange rate fluctuations lead to entry or exit decisions that are not reversed when the currency returns to its previous level. When we develop a simple model of the feedback from "hysteresis" in trade to the exchange rate itself. Here we see that a large capital inflow, which leads to an initial appreciation, can result in a persistent reduction in the exchange rate consistent with trade balance.

Rational and Self-fulfilling Balance-of-Payments Crises

Abstract: Speculative attacks on a pegged exchange rate must sometimes occur ifasset-price paths are to be free of abnormal profit opportunities. Suchattacks are fully rational, as they reflect the market's response to aregime breakdown that is inevitable. The authors shows that under someexpectations about policy, balance-of-payments crises can also be purely self-fulfilling events. In such cases even a permanently viableregime may collapse, and the economy will possess multiple equilibriacorresponding to different subjective assessments of the probability ofa crisis. The behavior of the domestic interest rate will naturally reflect the possibility of a speculative attack. Copyright 1986 by American Economic Association.

The dynamics of exchange rate volatility: a multivariate latent factor ARCH model

Abstract: We study temporal volatility patterns in seven nominal dollar spot exchange rates, all of which display strong evidence of autoregressive conditional heteroskedasticity (ARCH). We first formulate and estimate univariate models, the results of which are subsequently used to guide specification of a multivariate model. The key element of our multivariate approach is exploitation of factor structure, which facilitates tractable estimation via a substantial reduction in the number of parameters to be estimated. Such a latent-variable model is shown to provide a good description of multivariate exchange rate movements: the ARCH effects capture volatility clustering, and the factor structure captures commonality in volatility movements across exchange rates.

Beating the Foreign Exchange Market

Abstract: Filter rule profits found in foreign exchange markets in the early days of the current managed float persist in later periods, as shown by statistical tests developed and implemented here. The test is consistent with, but independent of, a wide variety of asset pricing models. The profits found cannot be explained by risk if risk premia are constant over time. Inclusion of the home-foreign interest rate differential in computing profits has little effect on the comparison of filter returns to those of buy-and-hold. IN THE EARLY YEARS of the generalized managed floating that began in March 1973, filter rule profits in excess of buy-and-hold were found for many countries (Logue, Sweeney and Willett [18], Dooley and Shafer [6], Cornell and Dietrich [5]). It was unclear, however, whether such profits indicated inefficiencies. First, it was not clear that risk was adequately handled in such tests, and often risk was ignored. Second, there was no evidence such profits would be available postsample. And third, there was no statistical test of the significance of these profits. This paper uses the logic of risk/return tradeoffs to analyze the role of risk in such tests and illustrates the logic in a discussion using the Sharpe-Lintner Capital Asset Pricing Model (CAPM), although a Breeden consumption-based CAPM, a Merton intertemporal CAPM, or an Arbitrage Pricing Model (APM) could easily be used. The paper develops a test of statistical significance appropriate to foreign exchange markets (Section I), analyzing the rate of return on foreign exchange speculation less the foreign-domestic interest rate differential. The test explicitly assumes that risk premia are constant over the sample. The excess rates of return observable in using filters in going from a risk-free dollar asset to a risk-free Deutsche Mark (DM) asset persist into the 1980's (Section II), and this is true even when taking account of transactions costs. It turns out that these results for the $/DM case do not depend very much on the interestrate differential, but primarily on exchange rate behavior. This is useful to know because it is often quite difficult to find matching, interest-rate data of high quality. For a sample of nine other currencies, using only exchange rates, Section III shows that the excess returns made in the first 610 days of the float persist in the next 1,220 days, into the 1980's. (Dooley and Shafer [7] find similar persistence in experiments that do not use buy-and-hold and have no significance tests.) When filter rule profits have been found in spot exchange markets, it has often been argued that the profits are due to risk. This paper uses the CAPM to analyze rates of return both to buy-and-hold and to filter strategies. It turns out that the * Claremont McKenna College and Claremont Graduate School. Arthur D. Warga, Douglas Joines, and Thomas D. Willett offered helpful comments, and Ning-Ning Koo provided research assistance.

The gold standard in theory and history

Abstract: Since the successful first edition of The Gold Standard in Theory and History was published in 1985, much new research has been completed. This updated version contains five new essays including: * post 1990 literature on exchange rate target zones * a discussion of the light shed by the gold standard on the European Monetary Union debate * a new introduction by Eichengreen with Marc Flandreau This will be an invaluable resource for students of macroeconomics, international economics and economic history at all levels.

Real Exchange Rates and Productivity Growth in the United States and Japan

Abstract: Real exchange rates between the yen and dollar based on general price indexes overestimate the competitiveness of the United States relative to Japan High productivity growth in the traded sector of the Japanese economy results in a continuous fall in the prices of traded goods relative to nontraded goods in Japan In order to keep US traded goods competitive, the real exchange rate based on general price series like the GDP deflator or the CPI index must continually fall resulting in a real appreciation of the yenThis paper provides estimates of how far real exchange rates based on general price series would have had to fall over the 1973-83 period in order to keep US traded goods competitive The real exchange rate based on GDP deflators, for example, would have had to fall by 38% relative to the real exchange rate based on unit labor costs in the traded sector The GDP series remained roughly constant over the period, thus giving the misleading impression that US goods were still competitive despite a sharp rise in the relative price of US traded goods The paper also provides estimates of the relative wage changes which would have to occur to restore the competitiveness of US traded goods

Pricing to Market when the Exchange Rate Changes

Abstract: It has been widely remarked that US import prices have not fully reflected movements in the exchange rate. This paper begins with an investigation of the actual extent of "pricing to market" by foreign suppliers. It shows that pricing to market is a real phenomenon, but not universal; in particular, evidence on German export prices suggests that stickiness of import prices is largely confined to machinery and transport equipment. The paper then considers a number of possible models. While the evidence is not sufficient to distinguish among thesemodels, it seems probable that a full explanation will involve both dynamics and imperfect competition.

Real Exchange Rates and Productivity Growth in the United States and Japan

Abstract: Real exchange rates between the yen and dollar based on general price indexes overestimate the competitiveness of the United States relative to Japan. High productivity growth in the traded sector of the Japanese economy results in a continuous fall in the prices of traded goods relative to nontraded goods in Japan. In order to keep U.S. traded goods competitive, the real exchange rate based on general price series like the GDP deflator or the CPI index must continually fall resulting in a real appreciation of the yen.This paper provides estimates of how far real exchange rates based on general price series would have had to fall over the 1973-83 period in order to keep U.S. traded goods competitive. The real exchange rate based on GDP deflators, for example, would have had to fall by 38% relative to the real exchange rate based on unit labor costs in the traded sector. The GDP series remained roughly constant over the period, thus giving the misleading impression that U.S. goods were still competitive despite a sharp rise in the relative price of U.S. traded goods. The paper also provides estimates of the relative wage changes which would have to occur to restore the competitiveness of U.S. traded goods.

The Budget Deficit and the Dollar

Abstract: This study examines the reasons for changes in the real exchange rate between the dollar and the German mark from the beginning of the floating rate regime in 1973 through 1984. The econometric analysis focuses on the effects of anticipated structural budget deficits and monetary policy in the United States and Germany and the changes in U.S. profitability induced by changes in tax rules. The possible impact of a number of other variables is also examined. The evidence indicates that the rise in expected future deficits in the budget of the U.S. government has had a powerful effect on the exchange rate between the dollar and the German mark. Each one percentage point increase in the ratio of future budget deficits to GNP increased the exchange rate by about 30 percentage points. Changes in the growth of the money supply also affect the exchange rate. Changes in tax rules and in the inflation-tax interaction that altered the corporate demand for funds did not have any discernible effect on the exchange rat...

Stopping Hyperinflations Past and Present

Abstract: We examine four successful stabilizations from high inflation -- Germany in 1923,Austria in 1922, in Poland 1924-27, Italy 1947 --and the two ongoing attempted stabilization in Israel and Argentina, with the aim of identifying general lessons from those episodes. The key issues in a stabilization are the budget, the exchange rate, and money. Budget deficits were significantly reduced in each case , but were not in all cases completely removed. The exchange rate was pegged in each case , through in all but the Italian case, each stabilization was also preceded by at least one episode in which attempted stabilization through exchange rate pegging was unsuccessful. As pointed out by Sargent and others , money growth rates were high after each stabilization, suggesting that any stabilization that strictly controls the growth of money will produce serious recession. A common feature of stabilizations is a period of extremely high real interest rates.

The interaction of foreign exchange and market power effects on german domestic prices

Abstract: This paper illustrates the importance of international influences on domestic markets. A model is presented in which changes in a country's terms of trade pass through to industrial prices in varying degrees depending on import penetration and seller concentration. Empirical results suggest that the 8.4 percent decline in the real external value of the Deutsche Mark from 1977 to 1983 allowed upward movement of about 2 percent in domestic producer prices of traded goods relative to the GNP price deflator. Increased market concentration led to a reduced effect, while increased import penetration led to some increase in the exchange rate passthrough. STANDARD INDUSTRIAL organization models stress the impact of market power and entry conditions on economic performance, with particular interest in price effects. At the industry level, greater concentration is expected to lead to higher prices, ceteris paribus, while greater ease in entry (or a larger "competitive fringe") implies lower prices. The international economics literature indicates that, in the absence of trade barriers, transactions and transportation costs, and market power, foreign exchange rate changes will be fully "passed through" to import and export prices, implying that domestic prices of "traded goods" for an appreciating currency will be adjusted downward by the full amount of the exchange rate change. The dramatic changes in exchange rates since the early 1970s provided exporters with new opportunities to enter markets of nations that had a "strong currency". West Germany has been regarded as one such country. This paper investigates the effect of exchange rate movements on particular German industrial prices. I test to see whether the prominence of imports

Exchange Rate Economics: 1986

Abstract: In the past fifteen years key exchange rates have moved in larger and more persistent ways than advocates of flexible rates in the late 1960s would have left anyone free to imagine. Certainly there was no expectation of constancy for nominal exchange rates. But real exchange rate movements of 30 or forty percent were definitely not suggested as a realistic possibility. Moreover where these large movements did occur they did not obviously appear to be connected with fundamentals, and hence seemed difficult to explain in terms of the exchange rate theories at hand. The persistence of rate movements was as surprising as the rapid unwinding of apparent misalignments when they did ultimately occur. The past fifteen years provide a natural dividing line between the Keynesian and monetary approaches of the 1960s, and the more recent analysis that takes into account exchange rate expectations and portfolio issues, which took off in the early 1970s as well as the brand-new approaches that concentrate on (partial equilibrium) microeconomics. To review these ideas the paper starts with a brief look at the U.S. experience with flexible exchange rates. From there it proceeds to the Mundell-Fleming model as a comprehensive framework of analysis. The following sections deal with persistent effects of policy disturbances, links between exchange rates and prices, the political economy of exchange rate movements and the question of policies toward excess capital mobility.

What went wrong with the recent reforms in the Southern Cone

Abstract: This paper describes and interprets the outcome of the reform packages in Chile, Argentina, and Uruguay during 1974-83. It is shown that all three countries experienced initial success with the rescue operation from the severe macroeconomic disequilibrium at the inception of the reforms. The paper then discusses the areas in which the reforms were successful and why the countries experienced boom bust cycles resulting in large increases in external indebtedness and internal financial crises. The paper attributes the failure of the reforms to a combination of policy inconsistencies, implementation difficulties, and market frictions. Jointly, these factors generated a sustained appreciation of the real exchange rate and a large spread between the cost of dollar-denominated and peso-denominated loans. In turn, the appreciation and interest rate difference created protracted opportunities for arbitrage that distracted firms from the business of production.

Special Exchange Rates for Capital Account Transactions

Abstract: The governments of developing countries are constrained in the effective implementation of domestic policy by the interlinkages of national and international financial markets. Domestic macroeconomic conditions are influenced by the interaction of national and world interest rates and prices, and through the impact of real exchange rates on employment. The domestic responses to changes in these factors are often strong and rapid. This article suggests that dual rates can indeed be used successfully as a strictly transitory policy to offset sudden shocks in capital markets. The article develops models which indicate why these dual systems are able to prevent inflationary or recessionary pressures caused by a misaligned exchange rate in the short term. While free capital account rates can cut the flow of capital flight, however, a dual rate system cannot prevent a possibly equivalent loss of foreign reserves that will ultimately result because of the impact of the overvaluation of the commercial rate on the trade balance. In the longer term, a dual rate system with a misaligned commercial rate exacerbates the government's deficit; ultimately, real wages must be cut and real interest rates raised to generate sufficient foreign exchange to finance the external debt. Thus a dual rate works well if the commercial rate is maintained close to the equilibrium level.

Borrowing to Defend the Exchange Rate and the Timing and Magnitude of Speculative Attacks

Abstract: The paper extends the recent literature on collapsing managed exchange rate regimes by allowing explicitly for the qovernment budget constraint and the interest cost of servicing the public debt. The policy experivent that is analysed is the decision by a government to replenish its stock of foreign exchange reserve through a once-off open market sale of bonds. Without a fundanental fiscal correction (i.e. a decision to reduce the primary (non-interest) deficit by an amount equal to the increase in the interest cost of servicing the debt) the conseqinces are as follows. In a deterministic model the timing of the speculative attack is brought forward (delayed) if the borrowing takes place long before (close to) the date at which without borrowing the collapse would have occurred. The magnitude of the attack (the final loss of reserves) always increases because of borrowing. In a stochastic model, borrowing reduces the probability of an early collapse and increases the likelihood of a later collapse. Under mild conditions, the expected length of the time interval until the collapse occus is increased by borrowing.

The Bolivian Hyperinflation and Stabilization

Abstract: Chapter 1 gives a brief introduction to the Bolivian economy. Chapter 2 provides an overview of the political economy of macroeconomic policymaking in Bolivia since the 1952 Revolution. Great stress is put on the weakness of fiscal institutions in the face of heavy social and sectoral demands. Chapter 3 highlights some of the main directions of development policy during 1952-85, especially involving public investment spending and trade policy. In chapter 4 we consider important characteristics of Bolivia's international trade, focusing both on structural features (e.g., the heavy dependence on a small number of primary commodities), as well as policy choices. Chapter 5 describes the process of foreign debt accumulation, which was the counterpart of the large budget deficits of the public sector in the 1970s and early 1980s. Chapter 6 lays out the dynamics of the hyperinflation during 1982-85, focusing on the complex causal links among the budget deficit, the money supply, the exchange rate, and the price level. In chapter 7 we detail the process of stabilization since 1985 and discuss some of the general lessons about ending high inflation that might be applied to other economies in the region. Chapter 8 describes the novel arrangements that Bolivia has negotiated in order to escape the severe overhang of external debt. In the concluding chapter 9, we discuss briefly the challenges facing Bolivia in the future, once stabilization has been accomplished.