Real exchange rates and real interest rate differentials: A present value interpretation

Mathias Hoffmann and Ronald MacDonald

European Economic Review, 2009, vol. 53, issue 8, 952-970

Abstract: Although the real exchange rate-real interest rate (RERI) relationship is central to most open economy macroeconomic models, empirical support for the relationship is generally found to be rather weak. In this paper we re-investigate the RERI relationship using bilateral US real exchange rate data spanning the period 1978-2007. Instead of testing one particular model, we build on Campbell and Shiller [1987. Cointegration tests of present-value models. Journal of Political Economy 95, 1062-1088] to propose a metric of the economic significance of the relationship. Our empirical results provide robust evidence that the RERI link is economically significant and that the real interest rate differential is a reasonable approximation of the expected rate of depreciation over longer horizons.

Keywords: Real; exchange; rates; Real; interest; rates; Present-value; model (search for similar items in EconPapers)
Date: 2009
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Citations: View citations in EconPapers (31)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:eecrev:v:53:y:2009:i:8:p:952-970

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