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Impact of real and nominal factors on long run equilibrium in Real Effective Exchange Rate (REER) in Pakistan

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  • Waheed, Muhammad

Abstract

In this paper, we focused on the hypothesis that nominal shocks such as monetary policy have only temporary impact on long run equilibrium real exchange rate and the consequent misalignment. To do so we utilized two approaches to tackle this issue. The first approach to find out long run real exchange rate is through investigation a long run relation between real exchange rate and its theoretical determinants. The variables that have a long run relationship with the real exchange rate include the terms of trade, real interest rate differential, government spending, and tradable to nontradable ratio. We found that monetary shocks have little impact in long run. Second approach used was the structural vector autoregression by imposing long run restrictions in line with the Blanchard and Quah (1989). Again, this approach has confirmed above results that only real shocks have lasting effects on long run real exchange rate. Nominal shocks only influence the equilibrium exchange rate temporarily in short run. The consequent misalignments measured through two approaches are then compared and policy implications are drawn. Although moving in the similar direction, there magnitudes are different. One important implication for this result is that policy makers’ reliance on any one measure of to judge misalignment would be give inaccurate results.

Suggested Citation

  • Waheed, Muhammad, 2009. "Impact of real and nominal factors on long run equilibrium in Real Effective Exchange Rate (REER) in Pakistan," MPRA Paper 33169, University Library of Munich, Germany, revised Sep 2010.
    • Handle: RePEc:pra:mprapa:33169
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    More about this item

    Keywords

    REER; NEER; misalignment; equilibrium; Pakistan;
    All these keywords.

    JEL classification:

    • F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance
    • O24 - Economic Development, Innovation, Technological Change, and Growth - - Development Planning and Policy - - - Trade Policy; Factor Movement; Foreign Exchange Policy

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