nep-ifn New Economics Papers
on International Finance
Issue of 2020‒04‒13
one paper chosen by
Vimal Balasubramaniam
University of Oxford

  1. Real Exchange Rate Dynamics Beyond Business Cycles By Cao, Dan; Evans, Martin; Lua, Wenlan

  1. By: Cao, Dan; Evans, Martin; Lua, Wenlan
    Abstract: We examine how medium-term movements in real exchange rates and GDP vary with international financial conditions. For this purpose, we study the international transmission of productivity shocks across a variety of IRBC models that incorporate different assumptions about the persistence of productivity shocks, the degree of international risk sharing and access to international asset markets. Using a new global solution method, we demonstrate that the transmission of productivity shocks depends critically on the proximity of a national economy to its international borrowing limit. We then show that this implication of the IRBC model is consistent with the behavior of the US-UK real exchange rate and GDP over the past 200 years. The model also produces a negative correlation between relative consumption growth and real depreciation rate consistent with more recent data, and hence offers a resolution of the Backus-Smith puzzle.
    Keywords: Real Exchange Rates, International Real Business Cycles, Global Solution Methods
    JEL: C60 F30 F31 F41 F44 G11
    Date: 2020–03–10

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