"Towards the estimation of equilibrium exchange rates for CEE acceding countries: methodological issues and a panel cointegration perspective,", with F. Maeso-Fernandez and B. Schnatz, Journal of Comparative Economics vol 34(2006), pages 499-517.
This paper provides a discussion of methodological issues relating to the estimation of the long-run relationship between exchange rates and fundamentals for Central and Eastern European acceding countries, focusing on the so-called behavioural equilibrium exchange rate (BEER) approach. Given the limited availability and reliability of data as well as the rapid structural change acceding countries have been undergoing in the transition phase, this paper identifies several pitfalls in following the most straightforward and standard econometric procedures. As an alternative, it looks at the merits of a two-step strategy that consists of estimating the relationship between exchange rates and economic fundamentals in a panel cointegration setting - using a sample which excludes acceding countries - and then "extrapolating" the estimated relationships to the latter. While focusing on the first step of such a strategy, the paper also delves into discussing technical aspects underlying the "extrapolation"stage. As a result, the paper endows the reader with the methodological and empirical ingredients for computing equilibrium exchange rates for acceding countries, providing estimates for the long-run coefficients between real exchange rates and economic fundamentals and a discussion of how to apply these results to acceding countries data
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“Pitfalls in estimating equilibrium exchange rates for transition economies” with Francisco Maeso-Fernandez and Bernd Schnatz, Economic Systems, 29(2005), pp. 130-143.
The literature on equilibrium exchange rates for the central and eastern European countries has mushroomed in recent years. In this paper we discus the econometric pitfalls involved in such estimations and endow the reader with the methodological ingredients to avoid such biases. We review the commonly used approaches and identify problems related to the most straightforward econometric procedures as they often do not take the transition process properly into account. As an alternative, we propose a two-stage “out-of-sample” strategy that consists of estimating the relationship between the exchange rates and fundamentals and the extrapolation of these relationships to transition economies.
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"Testing for unit roots: should we use panel methods?", with A. Banerjee and M. Marcellino, Empirical Economics, 2005, vol 30, pages 77-91.
A common finding in the empirical literature on the validity of purchasing power parity (PPP) is that it holds when tested for in panel data, but not in univariate (i.e. country-specific) analysis. The usual explanation for this mismatch is that panel tests for unit roots are more powerful than their univariate counterparts. In this paper we suggest an alternative explanation. Existing panel methods assume that cross-unit cointegrating relationships, that would tie the units of the panel together, are not present. Using simulations, we show that if this important underlying assumption of panel unit root tests is violated, the empirical size of the tests is substantially higher than the nominal level, and the null hypothesis of a unit root is rejected too often even when it is true. More generally, this finding warns against the "automatic" use of panel methods for testing for unit roots in macroeconomic time series.
"Some Cautions on the Use of Panel Methods for Integrated Series of Macro-Economic Data", with Anindya Banerjee
Massimiliano Marcellino, Econometrics Journal, 2004, vol. 7, pages 322-340.
We show how the use of panel data methods such as those proposed in single equations by Kao (1999) and Pedroni (1999) or in systems by Larsson and Lyhagen (1999) to investigate economic hypotheses such as purchasing power parity or the term structure of interest rates may be affected by the existence of cross-unit cointegrating relations. The existing literature assumes that such relations, that tie the units of the panel together, are not present. Using empirical examples from a panel of OECD countries we show that this assumption is very likely to be violated. Simulations of the properties of panel cointegration tests in the presence of cross-unit relations are then presented to demonstrate the serious cost of assuming away such relations. Some fixes are proposed as a way of dealing with these more general scenarios.
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"Productivity and the ('synthetic') euro-dollar exchange rate", with B. Schnatz and F. Vijselaar, Review of World Economics 2004, vol 140, pages 1-30.
This paper analyses the impact of productivity developments in the United States and the euro area on the euro-dollar exchange rate. The paper presents a new measure of relative average labour productivity (ALP), which does not suffer from the biases implicit in readily available relative ALP data. Importantly, the patterns of these series differ widely. Employing the Johansen cointegration framework, four Behavioural Equilibrium Exchange Rate models are estimated using four different productivity proxies. Our results indicate that the extent to which productivity can explain the euro depreciation varies with the productivity proxy used: readily available measures explain most, our new, preferred measure least. If foreign exchange traders used the former to assess productivity developments, this might thus have contributed to the weakness of the euro in 2000/2001. In all models, however, productivity can explain only a fraction of the actual euro depreciation experienced in 1999/2000.
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"Determinants of the Euro Real Effective Exchange Rate: A BEER/PEER Approach'', with F. Maeso-Fernandez and B. Schnatz, Australian Economic Papers, 2002, vol. 41, pages 437-461.
This paper presents an empirical analysis of the medium-term determinants of the euro effective exchange rate. The empirical analysis builds on synthetic quarterly data from 1975 to 1998, and derives a Behavioural Equilibrium Exchange Rate (BEER) and a Permanent Equilibrium Exchange Rate (PEER). Four different specifications are retained, due to the difficulties encountered in specifying an encompassing model. The results indicate that differentials in real interest rates and productivity, and (in some specifications) the relative fiscal stance and the real price of oil, have a significant influence on the euro effective exchange rate. Assessing the existence and the extent of the over- or undervaluation of the exchange rate is not straightforward, since these different specifications often lead to contrasting findings. However, all four specifications point unambiguously to the undervaluation of the euro in 2000, although the extent of this undervaluation largely depends on the specification chosen.
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