Short-Run Real Exchange Rate Dynamics
Posted: 12 Jan 2001
The short-run dynamics of German mark and US dollar real exchange rates are investigated for a panel of 19 OECD economies in a vector error correction framework for the 1973-96 period. The novel persistence profiles approach of Pesaran and Shin ("Cointegration and Speed of Convergence to Equilibrium", Journal of Econometrics, Vol. 71, (1996), pp. 117-143) indicates that the effect of system-wide shocks declines rapidly initially but decays slowly thereafter. It yields an average of just one year for the half-life of such shocks but some seven years before they fully dissipate. These half-life estimates are just one-quarter of the consensus estimates. Our results are consistent with non-linear adjustment and with monetary factors being the main source of real exchange rate volatility.
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