Is the floating exchange rate a shock absorber in Albania? Evidence from SVAR models

Ilir Miteza, Altin Tanku () and Ilir Vika ()
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Altin Tanku: Bank of Albania
Ilir Vika: Bank of Albania

Economic Change and Restructuring, 2023, vol. 56, issue 2, No 24, 1297-1326

Abstract: Abstract The choice of a foreign exchange regime hinges primarily on whether the real exchange rate acts as a shock absorber or reverberator for macroeconomic fluctuations. This policy choice is considered central especially prior to joining currency areas such as the Eurozone. We investigate whether Albania’s current floating exchange rate regime contributes to macroeconomic stability, or generates volatility. Using three different structural vector autoregression techniques, and an expanded five-variable model, we show that the real exchange rate has played a shock absorbing role, buffering the Albanian economy primarily from real demand shocks. The analysis reveals that monetary shocks and supply-side shocks have modest contributions in real exchange rate volatility. This evidence in favor of the “shock absorbing” view of exchange rates lends support to Albania’s policy choice of a flexible exchange rate system. If in future Albania considers joining a currency area, its monetary authority will need to pay attention to real currency misalignments as well as the availability and flexibility of alternative adjustment mechanisms.

Keywords: Real exchange rates; Structural vector autoregression; Cointegration; Bayesian SVAR; Albania; Economies in transition; CEE countries (search for similar items in EconPapers)
JEL-codes: E41 F31 (search for similar items in EconPapers)
Date: 2023
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Citations: View citations in EconPapers (1)

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DOI: 10.1007/s10644-022-09471-8

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