Money's Causal Role in Exchange Rate: Do Divisia Monetary Aggregates Explain More?

Soumya Bhadury and Taniya Ghosh
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Soumya Bhadury: National Council of Applied Economic Research

No 113, NCAER Working Papers from National Council of Applied Economic Research

Abstract: We investigate the predictive power of Divisia monetary aggregates in explaining exchange rate variations for India, Israel, Poland, UK and the US, in the years leading up to and following the 2007-08 recessions. One valid concern for the chosen sample period is that the interest rate has been stuck at or near the zero lower bound (ZLB) for some major economies. Consequently, the interest rate has become uninformative about the monetary policy stance. An important innovation in our research is to adopt the Divisia monetary aggregate as an alternative to the policy indicator variable. We apply bootstrap Granger causality method which is robust to the presence of non-stationarity in our data. Additionally, we use bootstrap rolling window estimates to account for the problems of parameter non-constancy and structural breaks in our sample covering the Great recession. We find strong causality from Divisia money to exchange rates. By capturing the time-varying link of Divisia money to exchange rate, the importance of Divisia is further established at ZLB.

Keywords: Monetary Policy; Divisia Monetary Aggregates; Simple Sum; Nominal Exchange Rate; Real Effective Exchange Rate; Bootstrap Granger Causality (search for similar items in EconPapers)
JEL-codes: C32 C43 E41 E51 E52 F31 F41 (search for similar items in EconPapers)
Pages: 30 pages
Date: 2018-02
New Economics Papers: this item is included in nep-ets, nep-mac and nep-mon
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Citations: View citations in EconPapers (4)

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Related works:
Journal Article: Money's causal role in exchange rate: Do divisia monetary aggregates explain more? (2018)
Working Paper: Money's Causal Role in Exchange Rate: Do Divisia Monetary Aggregates Explain More? (2017)
Working Paper: Money's causal role in exchange rate: Do Divisia monetary aggregates explain more? (2017)
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