Equilibrium Exchange Rates in New EU Members: External Imbalances versus Real Convergence

Enrique Alberola and Daniel Navia

Review of Development Economics, 2008, vol. 12, issue 3, 605-619

Abstract: In new EU members, the accumulation of net foreign liabilities has gone hand‐in‐hand with real exchange rate appreciations, contrary to intuition. This may be due to the induced effect that capital inflows on productivity and competitiveness (Balassa‐Samuelson effect). An extended empirical model comprising relative productivity and net foreign assets is well‐suited to capture this indirect, opposite effect of liabilities accumulation on the equilibrium exchange rates for the three largest economies: Poland, Hungary and Czech Republic. The model makes it possible to estimate equilibrium exchange rates and misalignments. Going forward, sustaining high productivity growth will be essential to ensure a smooth transition towards euro membership.

Date: 2008
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