Exchange Rates, Non-Traded Goods and the Terms-of-Trade: An Empirical Application for New Zealand

Eric Hansen and Michael Hutchison

No 96-11, EPRU Working Paper Series from Economic Policy Research Unit (EPRU), University of Copenhagen. Department of Economics

Abstract: This article formulates and tests for New Zealand a model of exchange rate determination focusing on non-tradeable goods and terms-of-trade shifts. We emphasise the equilibrium properties of this framework and, in this context, estimate an error correction model where adjustment in response to deviation from equilibrium is important determinant of short-run exchange rate movements. We estimate the model using a new data series on the supply of non- tradeable goods. The model has desirable empirical characteristics, including a plausible error correction equation, strong support for cointegration and rapid convergence to the long-run equilibrium. Moreover, a variety of diagnostic statistics, including parameter stability rests and out-of-sample forecasting performance, indicate the equation is a parsimonious representation of the data. These results provide considerable support for the emphasis on "real" determinants of nominal exchange rates, in this case fluctuations in non-traded goods and terms-of trade.

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Related works:
Journal Article: Exchange Rates, Non-traded Goods and the Terms of Trade: An Empirical Application for New Zealand (1997)
Working Paper: Exchange rates, non-traded goods and the terms-of-trade: an empirical application for New Zealand (1995)
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