nep-ifn New Economics Papers
on International Finance
Issue of 2005‒04‒30
nine papers chosen by
Yi-Nung Yang
Chung Yuan Christian University

  1. Fundamental and Non-Fundamental Equilibria in the Foreign Exchange Market. A Behavioural Finance Framework By Paul de Grauwe; Roberto Dieci; Marianna Grimaldi
  2. Exchange Rates and Inflation under EMU: An Update By Philip Lane; Patrick Honohan
  3. Are Re-Assessing the Evidence of an Emerging Yen Block in North and Southeast Asia By Colm Kearney; Cal muckley
  4. Financial Globalisation and Exchange Rates By Philip R. Lane; Gian Maria Milesi-Ferretti
  5. Owner-Used Capital Goods and the Exchange Rate Determination By Chris Minns;
  6. The Transition Economies: A NATREX Evaluation of Research By Jerome L. Stein
  7. Cross-Country Relative Price Volatility: Effects of Market Structure By Yin-Wong Cheung; Eiji Fujii
  8. Cost-Push Shocks and Monetary Policy in Open Economics By Philip R. Lane; Michael B. Devereux,Juanyi Xu
  9. The Behavioral Equilibrium Exchange Rate of the Czech Koruna By Martin Melecky; Lubos Komarek

  1. By: Paul de Grauwe; Roberto Dieci; Marianna Grimaldi
    Abstract: We develop a simple model of the exchange rate in which agents optimize their portfolio and use different forecasting rules. They check the profitability of these rules ex post and select the more profitable one. This model produces two kinds of equilibria, a fundamental and a bubble one. In a stochastic environment the model generates a complex dynamics in which bubbles and crashes occur at unpredictable moments. We contrast these ”behavioural” bubbles with ”rational” bubbles.
    Keywords: exchange rate, bounded rationality, heterogeneous agents, bubbles and crashes, complex dynamics, basins of attraction
    JEL: F31 F41 G10
    Date: 2005
  2. By: Philip Lane; Patrick Honohan
    Abstract: In our recent Economic Policy article(Honohan and Lane, 2003), we argued that the strength of the US dollar 1999-2001 had an important impact on inflation divergence within the EMU and in particular the surge in Ireland’s inflation to over 7 per cent. This hypothesis has been subjected to a grueling out-of-sample test: would the dollar’s subsequent weakness contribute to inflation convergence and in particular to a fall in Irish inflation? Fortunately for us, the theory has passed the test with flying colours. Irish inflation stopped dead in its tracks: consumer prices were unchanged between May and November of 2003. Regression analysis on quarterly inflation data across EMU members 1999.1-2004.1 confirms the importance of the exchange rate channel, although pinning down the exact dynamic specification will require a further span of data.
    Date: 2005–01–28
  3. By: Colm Kearney; Cal muckley
    Abstract: Using weekly observations on 9 Asian currencies from November 1976 to December 2003, we re-examine the evidence of an emerging yen block in North and Southeast Asia. In contrast to previous research that assumes instantaneous adjustment of exchange rates by the region’s Central Banks to variations in the world’s main global currencies, we use a dynamic general-to-specific Newey-West estimation strategy that allows gradual adjustment and calculation of both short and long run equilibrium responses. We find that there is no de facto yen block, but although the US dollar remains dominant throughout the region, the yen’s influence is rising amongst a subset of the currencies, particularly since the Asian crisis of the late 1990s. Classification-
    Keywords: Exchange rate systems, yen block
    Date: 2005–04–20
  4. By: Philip R. Lane; Gian Maria Milesi-Ferretti
    Abstract: The founders of the Bretton Woods System sixty years ago were primarily concerned with orderly exchange rate adjustment in a world economy that was characterized by widespread restrictions on international capital mobility. In contrast, the rapid pace of financial globalization during recent years poses new challenges for the international monetary system. In particular, large gross cross-holdings of foreign assets and liabilities means that the valuation channel of exchange rate adjustment has grown in importance, relative to the traditional trade balance channel. Accordingly, this paper empirically explores some of the inter-connections between financial globalization and exchange rate adjustment and discusses the policy implications. Classification-
    Keywords: Financial integration, capital flows, external assets and liabilities
    Date: 2005–04–20
  5. By: Chris Minns;
    Abstract: Present paper addresses the issue of the short and long run determination of the exchange rates in the Redux model of Obstfeld and Rogoff (1995). Current extension of the Redux model includes the investment projects that simultaneously can serve as investment allocation subject to the capital gains, as well as a regular consumption good. In contrast to the standard theoretical results, our model produces the exchange rate overshooting both in presence and in absence of price rigidities in the markets for final goods. This effect depends on the size of the owner-used capital goods expenditure relative to the total consumption expenditure, as well as the initial level of inflation at home. Depending on parameter values, and the initial conditions, the model supports possibility for exchange rate dynamics that include either overshooting orundershooting..
    Keywords: Exchange Rates, Overshooting, Capital, Owner-Occupied Housing.
    Date: 2005–04–20
  6. By: Jerome L. Stein
    Abstract: This paper applies the NATREX model of equilibrium exchange rates to evaluate several key studies of the Central and Eastern European Countries (CEEC) in general, with particular emphasis upon the Czech Republic and Hungary and with references to Poland and Bulgaria. On the basis of the NATREX model, we evaluate several key studies to answer the questions: How can the trends in the real exchange rates of the transition economies be explained? What are sustainable trends in their real exchange rates? To what extent were the real exchange rates misaligned? What are sustainable/equilibrium current account deficits and net investment positions in the medium and in the long-run? What are the policy implications for the transition economies of the NATREX analysis?
    Keywords: transition economies, NATREX model, equilibrium real exchange rates, current account deficits, euro area
    JEL: F31 F32 P20
    Date: 2005
  7. By: Yin-Wong Cheung; Eiji Fujii
    Abstract: Using annual data on nine manufacturing sectors of eighteen OECD countries, the article studies the implications of market structure for cross-country relative price variability. It is found that, in accordance with predictions from a standard markup pricing model, reductions in market competition, along with increased nominal exchange rate volatility, are associated with greater variability of cross-country relative prices. The market structure also has similar effects on components of cross-country relative price variability. The empirical findings are robust to the inclusion of various control variables and alternative sample specifications.
    Keywords: relative price volatility, market structure, price-cost margin, variance decomposition
    JEL: F31 F41
    Date: 2005
  8. By: Philip R. Lane; Michael B. Devereux,Juanyi Xu
    Abstract: This paper compares alternative monetary policy rules in a model of an emerging market economy that experiences external shocks to world interest rates and the terms of trade. The model is a two-sector dynamic open economy, with endogenous capital accumulation and slow price adjustment. Two key factors are highlighted in examining the response of the economy to shocks, and in the assessment of the effectiveness of monetary rules.These are: a) balance-sheet related financial frictions in capital formation; and b) delayed pass-through of changes in exchange rates to imported goods prices. We find that, while financial frictions cause a magniFcation of real and financial volatility, they have no effect on the comparison or ranking of alternative monetary policies. But the degree of exchange rate pass-through is very important for the assessment of monetary rules. With high pass-through, there is a trade-off between between real stability (in output or employment) and inflation stability. Moreover, the best monetary policy rule in this case is to stabilise non-traded goods prices. But, with delayed pass-through, the same trade off between real stability and inflation stability disappears, and the best monetary policy rule is CPI price stability Classification-
    Keywords: Monetary Policy, Exchange Rate Pass-through, Balance Sheet Constraints
    Date: 2005–04–20
  9. By: Martin Melecky (School of Economics, University of New South Wales); Lubos Komarek (Czech National Bank)
    Abstract: The behavioural equilibrium exchange rate (BEER) model of the Czech koruna is derived in this paper and estimated by three methods suitable for non-stationary time series. The considered potential determinants of the real equilibrium exchange rate are the productivity differential, the interest rate differential, the terms of trade, net foreign direct investment, net foreign assets, government consumption and the degree of openness. We find that the Czech koruna was on average undervalued over the period 1994 to 2004 by about 7 percent with respect to the estimated BEER. The significant determinants of the equilibrium exchange rate of the Czech koruna appear to be the productivity differential, the real interest rate differential, the terms of trade and the net foreign direct investment.
    Keywords: Equilibrium Exchange Rate Modelling, Time-Series Analysis, Exchange Rate Misalignments, Czech Republic, ERMII
    JEL: C52 C53 E58 E61 F31
    Date: 2005–04–28

This nep-ifn issue is ©2005 by Yi-Nung Yang. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.