The commodity currency puzzle

Hilde Christiane Bjørnland () and Håvard Hungnes

No 32/2005, Memorandum from Oslo University, Department of Economics

Abstract: This paper addresses the purchasing power parity (PPP) puzzle for a commodity currency. In particular, we analyse the real exchange rate behaviour in Norway, which has a primary commodity (oil) that constitutes the majority of its exports. A substantial part of the literature on commodity currencies has found that, despite controlling for the effect of commodity prices, PPP does not hold in the long run. We show that once we also control for the effect of the interest rate differential in the real exchange rate relationship, the discrepancies from PPP are fully accounted for. Furthermore, with the interest rate differential included in the long run real exchange rate relationship, the real oil price plays only a minor role. Adjustment to equilibrium (half-lives) is also substantially reduced, taking no more than one year on average. Hence, contrary to earlier findings on commodity currencies, we have effectively removed the PPP puzzle.

Keywords: Exchange rate; commodity currencies; real oil price; purchasing power parity; uncovered interest parity. (search for similar items in EconPapers)
JEL-codes: C32 F31 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-fmk and nep-ifn
Date: Written
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Published in The Icfai Journal of Monetray Economics, 2008, pages 7-30.

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Related works:
Working Paper: The commodity currency puzzle (2005)
Journal Article: The Commodity Currency Puzzle (2008)
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Persistent link: http://EconPapers.repec.org/RePEc:hhs:osloec:2005_032

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