Showing papers on "Exchange rate published in 1987"

International Economics: Theory and Policy

Abstract: Krugman and Obstfeld provide a unified model of open-economy macroeconomics based upon an asset-market approach to exchange rate determination with a central role for expectations.

Exchange Rates and Prices

Abstract: The adjustment of relative prices to exchange rate movements is explained in an industrial organization approach. Given labor costs in the respective currencies, exchange rate movements change costs for firms selling in the home market and thus disturb the industry equilibrium. The extent of absolute and relative price adjustment is shown to depend on market integration, product substitutability, the relative number of domestic and foreign firms, and the market structure. The impact of exchange rates on prices is illustrated in a variety of approaches including the Cournot, A. Dixit and J. Stiglitz_(1977), and S. Salop_(1979) models. Some empirical evidence is offered in support of the theory. Copyright 1987 by American Economic Association.

Real-Financial Linkages Among Open Economies

Abstract: The contributions in this book identify and take up an important problem in international economics - the split in theoretical and empirical work in international finance and in internatiopal trade. This book is unique in attempting to link these two aspects of the international economy together.The eight chapters explore the way exchange rates and international capital movements interact with industrial structure, comparative advantage, and sectoral wage patterns, focusing on results that are valuable to both real and financial analysis in open economies. The principal sources of real-financial linkage discussed throughout the book are structural and intertemporal. In an introductory section, the editors provide an overview of real-financial linkages among open economies and Alan Stockman discusses interactions between goods markets and asset markets. The section on structural sources of real-financial linkages includes chapters by Paul Krugman on pricing to market when the exchange rate changes, Richard Marston on real exchange rates and sectoral productivity growth in the United States and Japan, and Irving Kravis and Robert Lipsey on the assessment of national price levels. A final section on intertemporal sources of real-financial linkages presents an empirical investigation by Michael Hutchison and Charles Pigott into real and financial linkages in the macroeconomic response to budget deficits, and work by Koichi Hamada and Akiyoshi Horiuchi on monetary, financial, and real effects of Yen internationalization. Paul De Grauwe and Bernard de Bellefroid consider long-run exchange rate variability and international trade. Sven W. Arndt is Professor of Economics at the University ofCalifornia at Santa Cruz and President of the Commons Institute for International Economic Studies. J. David Richardson is Professor of Economics at the University of Wisconsin-Madison and a Research Associate of the National Bureau of Economic Research.

Using Financial Prices to Test Exchange Rate Models: A Note

Abstract: THE PURPOSE OF THIS note is to illustrate how tests of exchange rate models can be conducted using financial prices rather than macroeconomic data. All empirical tests of exchange rate models have met with limited success so far.' A major problem encountered is the poor quality of the macroeconomic data used. Most of the data suffer from large measurement error or cannot even be measured directly. For example, these models often require measures of changes in expected real activity or in monetary policy; such variables can only be poorly estimated from time-series models on industrial production or money supply. The innovation in this paper is to use financial prices such as stock prices instead of the traditional macroeconomic data. There exists convincing empirical evidence that stock returns forecast changes in economic activity as measured by industrial production, real growth in GNP, employment rate, or corporate profits (Fama [5] and Geske and Roll [8]). In the domestic context, stock prices have been used to test the relation between economic activity and inflation (e.g., Fama [5], Geske and Roll [8], and Solnik [12]). In the same spirit, stock returns are used in this paper as proxies for changes in economic activity to test the relation between exchange rates and economic activity. Interest rates are determined by monetary policies, and changes in interest rates are used in this article as indicators of monetary shocks. The approach used is introduced in Section I, while the empirical results are presented in Section II. The data cover the eight major western countries over the recent period of flexible exchange rates (July 1973 to December 1983).

Monetary and Portfolio Balance Models of Exchange Rate Determination

Abstract: “Monetary and Portfolio-Balance Models of Exchange Rate Determination” was a survey of empirical models of the 1970s, published in Economic Interdependence and Flexible Exchange Rates , edited by J. Bhandari (M.I.T. Press: Cambridge), in 1983. It is here supplemented with a brief epilogue to update the literature to 1987, including some skeptical observations on recent claims that “random walk” results constitute evidence in favor of an “equilibrium” model of the exchange rate.

Purchasing Power Parity in the Long Run: A Test of the Dollar/Pound Exchange Rate (1890-1978)

Abstract: This paper tests the Purchasing Power Parity (PPP) hypothesis by analyzing t he long-run tendency of the dollar/pound exchange rate using data sin ce 1890. Two different models are considered: (1) a na ive model and (2) a modified monetary model. The conditions of propor tionality and symmetry cannot be rejected when using the naive model. The final results using the monetary model, however, indicate that t he existence of permanent deviations from PPP cannot be ruled out. Copyright 1987 by Ohio State University Press.

Trade and exchange rate policies in growth-oriented adjustment programs

Abstract: The search for "growth-oriented adjustment programs" reflects a widespread malaise concerning IMF stabilization programs in countries suffering from external debt crises. A new orthodoxy is emerging from this search, which links recovery in the debtor countries to a shift to "outward-oriented" development, based on trade liberalization. This paper describes many important limitations of this new orthodoxy. The heavy emphasis on liberalization is a historical, and indeed runs contrary to the experiences of the successful East Asian economies. It also distracts attention from more pressing needs of the debtor economies.

Time-Varying Parameters and the Out-of-Sample Forecasting Performance of Structural Exchange Rate Models

Abstract: Varying-parameter estimation techniques based on recursive application of the Kalman filter are used to improve the predictive performance of a class of monetary exchange rate models. I find that allowing estimated parameters to vary over time enhances the models' forecasting performance for the dollar–pound, dollar–mark, and dollar–yen exchange rates. Contrary to earlier results in the literature, ex-post forecasts for the dollar-mark rate compare favorably with those obtained from the naive random walk forecasting rule.

Time-Varying Parameters and the Out-of-Sample Forecasting

Abstract: Varying-parameter estimation techniques based on recursive application of the Kalman filter are used to improve the predictive performance of a class of monetary exchange rate models. I find that allowing estimated parameters to vary over time enhances the models' forecasting per- formance for the dollar-pound, dollar-mark, and dollar-yen exchange rates. Contrary to earlier results in the literature, ex-post forecasts for the dollar-mark rate compare favorably with those obtained from the naive random walk forecasting rule. This article deals with the out-of-sample forecasting performance of a class of empirical models of exchange rate determination. Although the literature has been flooded with in-sample studies of empirical exchange rate models since the breakdown of the Bretton Woods fixed-parity system in the early 1970s, systematic studies of the forecasting performance of structural or reduced- form models are relatively scarce. Meese and Rogoff (1983a) studied the forecasting performance of several important monetary models. Although in-sample studies of these models usually show quite satisfactory fits, Meese and Rogoff's out-of-sam- ple results were not very encouraging: the structural models failed to improve on the simple random walk forecasting rule, even though the models' forecasts were based on actual, realized values of future explanatory variables. A number of potential explanations for the unimpressive out-of-sample forecasting performance of the models have been offered in the literature (Isard 1983; Meese and Rogoff 1983a,b; Saidi 1983). In this article I take up the possibility of parameter variation over time. The forecasting performance of a class of monetary exchange rate models is studied em- ploying a methodology that allows for parameter vari- ation. A number of different factors could lead to parameter instability. Some important ones are the following:

Nigeria During and After the Oil Boom: A Policy Comparison with Indonesia

Abstract: Nigeria and Indonesia provide an interesting contrast with regard to performance and policy during and after the oil boom. Roughly a decade after the first oil shock, Nigeria is faced with several economic problems including a serious decline in its agricultural sector and a deteriorating external debt situation. While some decline in the nonoil traded goods sector reflects efficient adjustment to the oil boom, policy with regard to public expenditure, exchange rates, pricing, and the trade regime could exacerbate such decline and impede readjustment as the boom subsides. The links between oil prices, deficits, inflation, and real exchange rate appreciation are analyzed and Nigerian and Indonesian fiscal and exchange rate and agricultural and foreign borrowing strategies are compared. It is concluded that with the exception of cuts in the deficit since 1984, Nigerian policy following the boom has not been conducive to adjustment to the current period of low oil prices and high real interest rates. Corrective measures and policy options are discussed.

The Flexible Exchange Rate System: Experience and Alternatives

Abstract: We review ten aspects of how floating exchange rates have worked in practice, contrasted with ten characteristics that the system was supposed to have in theory. We conclude that the foreign exchange market is characterized by high transactions-volume, short-term horizons, and an absence of stabilizing speculation. As a result, the exchange rate at times strays from the equilibrium level dictated by fundamentals, contrary to theory. We then look at ten proposed alternatives to the current system. Four entail decentralized policy rules: new classical macroeconomics, a gold standard, monetarism, and nominal income targeting. Four foresee enhanced international coordination: G-7 "objective indicators," Williamson target zones, McKinnon "world monetarism," and a "Hosomi Fund." Two propose enhanced independence: a "Tobin tax" on transactions, and a dual exchange rate. We conclude that one might build a case for intervention from the observed failure of international financial markets to behave as in the theoretical ideal, but that government intervention in practice is just as likely to fall short of the theoretical ideal

Finanial Policy and Speculative Runs with a Crawling Peg: Argentina 1979-1981

Abstract: In this paper we present a model of a balance-of-payments crisis and use it to examine the Argentine experiment with a crawling peg between December 1978 and February 1981. The approach taken allows us to examine the evolution of a crisis when the collapse is not a perfectly-foreseen event. The implementation of the model yields plausible values of the one-month ahead probabilities of a collapse of the crawling peg. The probabilities exhibit a sharp increase in the middle of 1980 and indicate a significant loss of credibility throughout the remainder of the year. The results suggest that viability of an exchange rate regime depends strongly on the domestic credit policy followed by the authorities. If this policy is not consistent with the exchange rate policy pursued by the authorities, confidence in the exchange rate policy is undermined.

An Equilibrium Model of Exchange Rate Determination and Asset Pricing with Nontraded Goods and Imperfect Information

Abstract: This paper presents a two-country model with maximizing households, stochastic production, stochastic money growth, and perfect capital mobility. Because of the presence of nontraded goods, households in different countries consume different goods. Analytic solutions are presented for the nominal exchange rate, the real exchange rate, nominal interest rates, and real interest rates. It is shown that the model is compatible with some important features of the real-world behavior of exchange rates. When households are imperfectly informed about the distribution of money growth, the exchange rate exhibits patterns of overshooting and is more volatile than the ratio of the money stocks. Copyright 1987 by University of Chicago Press.

Stabilization with Exchange Rate Management

Abstract: Stabilization programs in open economies typically consist of two stages. In the first stage the rate of currency devaluation is reduced, but the fiscal adjustment does not eliminate the fiscal deficit that causes growth of debt and loss of reserves, making a future policy change necessary. Only later, at a second stage, is this followed by either an abandonment of exchange rate management or by a sufficiently large cut in the fiscal deficit. We study how different second-stage policy changes affect economic dynamics during the first stage. These changes include tax increases, budget cuts on traded and nontraded goods, and increases in the growth rate of money.

The out-of-sample forecasting performance of exchange rate models when coefficients are allowed to change

Abstract: This study examines the out-of-sample forecasting performance of models of exchange rate determination without imposing the restriction that coefficients are fixed over time. Both fixed and variable coefficient versions of conventional structural models are considered, with and without a lagged dependent variable. While our results on fixed coefficient models support most of the Meese and Rogoff conclusions, we find that when coefficients are allowed to change, an important subset of conventional models of the dollar-pound, the dollar-deutsche mark, and the dollar-yen exchange rates can outperform forecasts of a random walk model. The structural models considered are the flexible-price (Frenkel-Bilson) and sticky-price (Dornbusch-Frankel) monetary models, and a sticky-price model which includes the current account (Hooper-Morton). We also find that the variable coefficient version of the Dornbusch-Frankel model with a lagged dependent variable generally predicts better than the other models considered including the random walk model.

A Conditional Variance Model for Daily Deviations of an Exchange Rate

Abstract: A model for the distribution of daily deviations of an exchange rate is suggested. The distribution is Gaussian with a variance that depends on previous deviations. The model is applied to the exchange rate of the U.S. dollar to special drawing rights.

Short-term and long-term expectations of the yen/dollar exchange rate: Evidence from survey data

Abstract: Three surveys of exchange rate expectations allow us to measure directly the expected rates of return on the yen versus the dollar. Expectations of yen appreciation against the dollar have been (1) consistently large, (2) variable, and (3) greater than the forward premium, implying that investors were willing to accept a lower expected return on dollar assets. At short-term horizons expectations exhibit bandwagon effects, while at longer-term horizons they show the reverse. A l0% yen appreciation generates the expectation of a further appreciation of 2.4% over the following week, for example, but a depreciation of 3.4% over the following year. At any horizon, investors would do better to reduce the absolute magnitude of expected depreciation. The true spot rate process behaves more like a random walk. J. Japan. Int. Econ. , September 1987, 1 (3), pp. 249–274. Department of Economics, University of California, Berkeley, CA 94720; and Sloan School of Management, Massachusetts Institute of Technology, Cambridge, MA 02139.

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.

Are Exchange Rates Excessively Variable

Abstract: "Unnecessary variation" is defined as variation not attributable to variation in fundamentals. In the absence of a good model of macroeconomic fundamentals, the question "are exchange rates excessively variable?" cannot be answered by comparing the variance of the actual exchange rate to the variance of a set of fundamentals. This article notes the failure of regression equations to explain exchange rate movements even using contemporaneous macroeconomic variables, as well as the statistical rejections of the unbiasedness of the forward exchange rate as a predictor. It then argues that, given these results, there is not much to be learned from the variance-bounds tests and bubbles tests. The article then discusses recent results on variation in the exchange risk premiums arising from variation in conditional variances, both as a source of the bias in the forward rate tests and as a source of variation in the spot rate. It ends with a discussion of whether speculators' expectations are stabilizing or desta...

Fiscal Rigidities, Public Debt, and Capital Flight

Abstract: This paper associates exchange rate crises and capital flight with the possibility of default on public debt resulting from fiscal rigidities. By including interest-bearing debt, both domestic and external, the model can generate the timing of an attack and can explain why domestic public bonds, even when perfectly indexed, cannot eliminate the possibility of a crisis. This fiscal framework provides explanations for the simultaneity of private capital flight and public foreign borrowing and wide observed fluctuations in real exchange rates, with recent Mexican experience as illustration.

An Empirical Analysis of the Effects of the Exchange Rate on Canadian Tourism

Abstract: The effects of depreciation of the Canadian dollar on the Canadian tourist industry are estimated, and it is shown that the exchange rate had a modest impact in attracting U. S. visitors to Canada. However, the favorable exchange rate effects seem to be offset by other factors.

Adjustment with a Fixed Exchange Rate: Cameroon, Côte d'Ivoire, and Senegal

Abstract: As members of the CFA Franc Zone, Cameroom, Cote d'Ivoire, and Senegal cannot use the nominal exchange rate as a tool of macroeconomic adjustment. This article considers these countries' responses to the commodity and oil price shocks of the 1970s in light of this and other institutional constraints. Using a two sector model, it shows that there exist instruments that, in principle, permit the real exchange rate depreciation necessary for adjusting to macroeconomic imbalances. The authors interpret the very different adjustment experiences of the three countries (despite their common economic structure and institutional setting) in terms of different uses of these instruments. Alternative assumptions about the labour market leave the qualitative nature of the results unaltered. Statistical analysis of data from the three countries confirms the model's linking of the current account and real exchange rate with the instruments of adjustment.