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On the indirect causality relation from exchange rates to fundamentals

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  • Hsiu-Hsin Ko

    (National University of Kaohsiung)

Abstract

In this study, we examine whether the monetary-transmission mechanism of exchange rate changes also explains the finding of the causality relation from exchange rates to fundamentals, which is taken as a validation for the present value model for exchange rates in a prominent work. To take account of the indirect causality relation between variables implied by the monetary-transmission mechanism, we apply the method proposed by Dufour and Taamouti (2010) to estimate the causality and perform the test. We observe that the causality relation from exchanger rates to UIP and PPP fundamentals could be stronger in the middle horizon than the short and long horizon, which implies the exchange rate change has inertial effect on the fundamentals. However, the effect is not statistically significant, which implies that the role of the exchange rate may not be so important as to influence the monetary policy rule.

Suggested Citation

  • Hsiu-Hsin Ko, 2015. "On the indirect causality relation from exchange rates to fundamentals," Economics Bulletin, AccessEcon, vol. 35(3), pages 1518-1524.
    • Handle: RePEc:ebl:ecbull:eb-15-00152
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    References listed on IDEAS

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    1. Charles Engel & Kenneth D. West, 2005. "Exchange Rates and Fundamentals," Journal of Political Economy, University of Chicago Press, vol. 113(3), pages 485-517, June.
    2. Dufour, Jean-Marie & Pelletier, Denis & Renault, Eric, 2006. "Short run and long run causality in time series: inference," Journal of Econometrics, Elsevier, vol. 132(2), pages 337-362, June.
    3. John B. Taylor, 2001. "The Role of the Exchange Rate in Monetary-Policy Rules," American Economic Review, American Economic Association, vol. 91(2), pages 263-267, May.
    4. Jean-Marie Dufour & Eric Renault, 1998. "Short Run and Long Run Causality in Time Series: Theory," Econometrica, Econometric Society, vol. 66(5), pages 1099-1126, September.
    5. Taylor, John B. (ed.), 2001. "Monetary Policy Rules," National Bureau of Economic Research Books, University of Chicago Press, edition 1, number 9780226791258, September.
    6. Dufour, Jean-Marie & Taamouti, Abderrahim, 2010. "Short and long run causality measures: Theory and inference," Journal of Econometrics, Elsevier, vol. 154(1), pages 42-58, January.
    7. Granger, C W J, 1969. "Investigating Causal Relations by Econometric Models and Cross-Spectral Methods," Econometrica, Econometric Society, vol. 37(3), pages 424-438, July.
    8. Meese, Richard A. & Rogoff, Kenneth, 1983. "Empirical exchange rate models of the seventies : Do they fit out of sample?," Journal of International Economics, Elsevier, vol. 14(1-2), pages 3-24, February.
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    Cited by:

    1. Lansing, Kevin J. & Ma, Jun, 2017. "Explaining exchange rate anomalies in a model with Taylor-rule fundamentals and consistent expectations," Journal of International Money and Finance, Elsevier, vol. 70(C), pages 62-87.
    2. Xie, Zixiong & Chen, Shyh-Wei, 2019. "Exchange rates and fundamentals: A bootstrap panel data analysis," Economic Modelling, Elsevier, vol. 78(C), pages 209-224.
    3. Pincheira, Pablo & Hardy, Nicolas, 2018. "The predictive relationship between exchange rate expectations and base metal prices," MPRA Paper 89423, University Library of Munich, Germany.
    4. Michał Chojnowski & Piotr Dybka, 2017. "Is Exchange Rate Moody? Forecasting Exchange Rate with Google Trends Data," Econometric Research in Finance, SGH Warsaw School of Economics, Collegium of Economic Analysis, vol. 2(1), pages 1-21, June.

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    More about this item

    Keywords

    exchange rates; fundamentals; causality relation; inertial effects of exchange-rate transmission;
    All these keywords.

    JEL classification:

    • F3 - International Economics - - International Finance
    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

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