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Balance of Payments Pressures on the Nominal Exchange Rate: A Fresh Look at Old Ideas

Anna Drahozalova
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Anna Drahozalova: Institute of Economic Studies, Charles University, Prague, Czech Republic

No 2025/13, Working Papers IES from Charles University Prague, Faculty of Social Sciences, Institute of Economic Studies

Abstract: This paper contributes to the existing literature on exchange rate modelling by developing a new proxy for foreign exchange market imbalances. By utilizing the monetary presentation of the Balance of Payments we create a measure of net external flows and study its impact on the exchange rate. Focusing on the case of the Czech Republic, we account for the coexistence of fixed and floating exchange rate regimes by relying on the exchange market pressure (EMP) index. A vector autoregression model provides evidence of a causal relationship from net external flows to the EMP index. We find that a positive orthogonal shock to net external flows causes the Exchange rate to appreciate already in the short term with the effect peaking three months after the initial shock.

Keywords: Foreign Exchange; Exchange Rates; Capital Flows (search for similar items in EconPapers)
JEL-codes: F31 F32 F37 F41 G15 (search for similar items in EconPapers)
Pages: 32 pages
Date: 2025-07, Revised 2025-07
New Economics Papers: this item is included in nep-mac and nep-mon
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Persistent link: https://EconPapers.repec.org/RePEc:fau:wpaper:wp2025_13

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