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What determines European real exchange rates?

Martin Berka () and Michael Devereux ()

No 1687, Working Paper Series from Victoria University of Wellington, School of Economics and Finance

Abstract: We study a newly constructed panel data set of relative prices for a large number of consumer goods among 31 European countries over a 15 year period. The data set includes eurozone members both before and after the inception of the euro, floating exchange rate countries of western Europe, and emerging market economies of Eastern and Southern Europe. We find that there is a substantial and continuing deviation from PPP at all levels of aggregation, both for traded and non-traded goods, even among eurozone members. Real exchange rates exhibit two clear properties in the sample; a) they are closely tied to GDP per capita relative to the European average, at all levels of aggregation and for both cross country time series variation, b) they are highly positively correlated with cross country and time series variation in the relative price of non-traded goods. We then construct a simple two-sector endowment economy model of real exchange rate determination which exhibits these two properties, calibrated to match the data. Simulating the model using the historical relative GDP per capita for each country, we find that for most countries, there is a very close fit between the actual and simulated real exchange rate.

Keywords: real exchange rate; GDP; European countries; relative prices (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-eec and nep-opm
Date: 2011
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http://researcharchive.vuw.ac.nz/handle/10063/1687

Related works:
Working Paper: What determines European real exchange rates? (2010) Downloads
Working Paper: What determines European real exchange rates? (2010) Downloads
Working Paper: What Determines European Real Exchange Rates? (2010) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:vuw:vuwecf:1687

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