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Structural Breaks in the Real Exchange Rate and Real Interest Rate Relationship

By Joseph P. Byrne and Jun Nagayasu

Abstract

In this paper we empirically examine the relationship between the real exchange rate and real interest rate differentials using recent econometric methods robust to potential structural breaks. Generally, our study provides evidence of this relationship in the long-run context. More specifically, we first focus on the UK-US relationship, and interestingly find limited evidence of this long-run relationship using traditional methods. But when an approach robust to endogenously determined structural breaks is employed, we find evidence that the real interest rate differential is an important determinant of the real exchange rate. Secondly, in order to investigate the relevance of structural shifts in a more\ud global context, we carry out multiple country analysis. While providing evidence of this long-run relationship, European data suggest that the presence of structural breaks is not very common across countries and is indeed country-specific

Topics: Real exchange rate, real interest rate differential, nonstationarity, endogenously determined structural breaks, trace tests
Publisher: University of Tsukuba
Year: 2008
OAI identifier: oai:repo.sire.ac.uk:10943/65
Provided by: SIRE

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