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Alternative Concepts of the Real Exchange Rate: A Reconciliation

Author

Listed:
  • Jacqueline Dwyer

    (Reserve Bank of Australia)

  • Philip Lowe

    (Reserve Bank of Australia)

Abstract

Widespread reference to the real exchange rate stems from the belief that it is a useful summary indicator of key economic information. There exist, however, two forms of the real exchange rate: one form is based on deviations from purchasing power parity, while the other is based on the ratio of domestic prices of non-tradeables to tradeables. In this paper, an attempt is made to reconcile the two forms of the real exchange rate, both in theory and in practice. It is shown analytically that under certain restrictive conditions they will be equivalent. These conditions are, however, not always met so that in practice the two forms of the real exchange rate diverge. Changes in the productivity of the traded goods sector and the terms of trade are shown to be the principal sources of divergence. Identification of such economic fundamentals is central to the proper interpretation of movements in real exchange rates and, therefore, the efficacy of any attempt by policy makers to effect changes in them.

Suggested Citation

  • Jacqueline Dwyer & Philip Lowe, 1993. "Alternative Concepts of the Real Exchange Rate: A Reconciliation," RBA Research Discussion Papers rdp9309, Reserve Bank of Australia.
    • Handle: RePEc:rba:rbardp:rdp9309
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    File URL: https://www.rba.gov.au/publications/rdp/1993/pdf/rdp9309.pdf
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    References listed on IDEAS

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    Cited by:

    1. de Brouwer,Gordon, 1999. "Financial Integration in East Asia," Cambridge Books, Cambridge University Press, number 9780521651486, September.
    2. VALDIVIA, Fernando Zarzosa, 2010. "Determinants of the structural real exchange rates and economic structures in Argentina, Chile and Mexico," Working Papers 2010025, University of Antwerp, Faculty of Business and Economics.
    3. Kenneth W. Clements & H. Y. Izan & Yihui Lan, 2009. "A Stochastic Measure of International Competitiveness," International Review of Finance, International Review of Finance Ltd., vol. 9(1‐2), pages 51-81, March.
    4. Bo??tjan Jazbec, 2002. "Balassa-Samuelson Effect in Transition Economies: The Case of Slovenia," William Davidson Institute Working Papers Series 507, William Davidson Institute at the University of Michigan.
    5. John Hawkins, 2006. "The Concept of Competitiveness," Treasury Working Papers 2006-02, The Treasury, Australian Government, revised Apr 2006.
    6. Jonathan Hambur & Lynne Cockerell & Christopher Potter & Penelope Smith & Michelle Wright, 2015. "Modelling the Australian Dollar," RBA Research Discussion Papers rdp2015-12, Reserve Bank of Australia.

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