Real exchange rate dynamics: Relative importance of Taylor-rule fundamentals, monetary policy shocks, and risk-premium shocks

Chang Jin Kim, Cheolbeom Park

Research output: Contribution to journalArticlepeer-review

3 Citations (Scopus)

Abstract

We first show that the solution to the real exchange rate under the Taylor rule with interest rate smoothing can have two alternative representations—one based on a first-order difference equation and the other based on a second-order difference equation. Then, by comparing error terms from these two alternative representations and analyzing their second moments, we evaluate the relative importance of Taylor-rule fundamentals, monetary policy shocks, and risk-premium shocks in the dynamics of the real exchange rate. Empirical results suggest that the risk-premium shock is the largest contributor to real exchange rate movements for all the countries examined, with the Taylor-rule fundamentals and monetary policy shocks playing a limited role. These results are robust to various alternative sets of parameter values considered for the Taylor rule with interest rate smoothing.

Original languageEnglish
Pages (from-to)201-219
Number of pages19
JournalReview of International Economics
Volume27
Issue number1
DOIs
Publication statusPublished - 2019 Feb 1

Bibliographical note

Funding Information:
We are grateful to Jinill Kim, Manjong Lee, and seminar participants at the Bank of Korea, Chung-Ang University, and Sungkyunkwan University for their valuable comments and discussions. Kim acknowledges financial support from the Bryan C. Cressey Professorship at the University of Washington. The usual disclaimers apply.

Funding Information:
We are grateful to Jinill Kim, Manjong Lee, and seminar participants at the Bank of Korea, Chung‐ Ang University, and Sungkyunkwan University for their valuable comments and discussions. Kim acknowledges financial support from the Bryan C. Cressey Professorship at the University of Washington. The usual disclaimers apply.

Publisher Copyright:
© 2018 John Wiley & Sons Ltd

ASJC Scopus subject areas

  • Geography, Planning and Development
  • Development

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