Essays on real exchange rates

關於實際匯率的論文

Student thesis: Doctoral Thesis

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Author(s)

  • Aayesha NOOR MIAN

Related Research Unit(s)

Detail(s)

Awarding Institution
Supervisors/Advisors
Award date14 Feb 2014

Abstract

The traditional theory ascribes fluctuations in real exchange rates to changes in the relative price of non-traded goods to traded goods. Segregating goods in to either traded or non-traded, it assumes the law of one price for traded goods. It is expected that as traded-goods are relatively more exposed to strong competition from abroad, the possibility for arbitrage should eventually eliminate any cross-country price differentials. Non-traded goods are generally products that are marketed at home, and the conditions are such that that they are relatively free of foreign competition hence the prices of non-traded goods are considered to be solely determined by domestic demand and supply considerations. This warrants for the claim that the long run movements in real exchange rates are the result of the movements in the ratio of relative price of the non- traded to traded goods between countries. My dissertation consists of three essays. The first essay examines the relevance of the Balassa Samuelson (BS) effect and the validity of long-run PPP in South Asian countries. Using annual data, the bilateral real exchange rates for India, Bangladesh, Pakistan and Sri Lanka are investigated. The empirical results show only limited evidence of a cointegrating relationship between long run real exchange rates and the relative price of non-tradables. The lack of a strong Balassa-Samuelson effect could partially be explained by persistent deviations from the law of one price for tradable goods or the imperfect proxies for the price of non-traded and traded goods. A natural corollary would be to use more accurate proxies for the prices of traded to non-traded goods. Hence the next section of the paper extends the literature by constructing measures of price indices and bilateral real exchange rates using GDP deflators by The traditional theory ascribes fluctuations in real exchange rates to changes in the relative price of non-traded goods to traded goods. Segregating goods in to either traded or non-traded, it assumes the law of one price for traded goods. It is expected that as traded-goods are relatively more exposed to strong competition from abroad, the possibility for arbitrage should eventually eliminate any cross-country price differentials. Non-traded goods are generally products that are marketed at home, and the conditions are such that that they are relatively free of foreign competition hence the prices of non-traded goods are considered to be solely determined by domestic demand and supply considerations. This warrants for the claim that the long run movements in real exchange rates are the result of the movements in the ratio of relative price of the non- traded to traded goods between countries. My dissertation consists of three essays. The first essay examines the relevance of the Balassa Samuelson (BS) effect and the validity of long-run PPP in South Asian countries. Using annual data, the bilateral real exchange rates for India, Bangladesh, Pakistan and Sri Lanka are investigated. The empirical results show only limited evidence of a cointegrating relationship between long run real exchange rates and the relative price of non-tradables. The lack of a strong Balassa-Samuelson effect could partially be explained by persistent deviations from the law of one price for tradable goods or the imperfect proxies for the price of non-traded and traded goods. A natural corollary would be to use more accurate proxies for the prices of traded to non-traded goods. Hence the next section of the paper extends the literature by constructing measures of price indices and bilateral real exchange rates using GDP deflators by sectors. These deflators capture the price of output by sector at the production site. Since our objective is to effectively gauge the prices of traded goods, for which arbitrage can successfully remove the individual price differentials as emphasized by the traditional theory, using production-based prices would be a better option than consumption-based prices. The second essay further explores the classic explanation for the fluctuations in real exchange rates given by Balassa (1964) and Samuelson (1964), most commonly known as productivity bias hypothesis. This theory attributes fluctuations in real exchange rate to sectorial productivity differentials and implies that relative price of non-traded goods in each country reflects the relative productivity of labor in the traded and non-traded goods sectors. Using sectoral labor productivity as a proxy for sectoral TFP's, this paper investigates the relationship between real exchange rates and sectoral labor productivity differentials. We apply panel cointegration techniques developed by Pedroni (2000) and panel unit root tests to a panel of Asian, Latin American and OECD countries. The results provide strong evidence supporting the productivity bias hypothesis and confirm a significant long run relationship between real exchange rate and sectoral productivity differential. Consistent with the components of BS hypothesis we find labor productivity differential in the traded and non-traded goods sectors and relative price of non-tradables are cointegrated. Even though technology can differ across countries and sectors for extended periods of time, it is plausible that free trade, the free flow of human and physical capital contributes towards long run convergence in labor productivity, per capita income levels and therefore limits potential deviations from PPP in the long run. The third and final essay examines the foundations of the Balassa-Samuelson hypothesis by constructing measures of total factor productivity that are internationally comparable to explicitly test the extent of international and inter-sectoral technological convergence. Significant evidence of such convergence could potentially vitiate the Balassa-Samuelson hypothesis by establishing that, at least in the long run, no persistent technological differentials remain that could cause permanent departures of exchange rates from PPP. Based on the theory of integrated time series we construct a stochastic framework for convergence in total factor productivity in the traded and non-traded goods sectors across a group of 13 OECD countries. Using disaggregated industry-level data we construct sectoral total factor productivities (TFPs) which are internationally comparable, and find that there is little evidence of long-run convergence in TFP levels across countries in both the traded and non-traded goods sectors. Though almost all hypotheses tests fail to reject the null hypothesis of no convergence, we do find some evidence for common trends and cointegration in traded-goods TFPs. Consistent with the predictions of Balassa Samuelson model, we find strong evidence for a significant long run relationship between real exchange rate and TFP differentials.

    Research areas

  • Econometric models, Foreign exchange rates