How you export matters: the disassortative structure of international trade

The local network structure of international trade relations offers a new dimension for understanding a country’s competitive position vis-á-vis its trade partners and competitors, supporting economic policy analysis. We introduce two network measures that can be used to analyse comparative advantage and price competitiveness, called relative export density and export price assortativity, respectively. The novelty of these measures is that they consider the embedding of a country into its local trade environment. They are computed based on unit values and sector concentrations at a highly granular level and they help to uncover general patterns of the global organisation of international trade. Countries have a strong tendency to arrange their exports to form local monopolies by focusing on products and markets, usually - but not exclusively - where they have a price advantage. Price (dis)assortativity turns out to be an important factor for export growth, even after controlling for a large set of macroeconomic and structural determinants. This effect is particularly strong for catching-up CESEE countries, with potential implications for industrial policy. The relationship between the two export assortativity metrics for different groups of countries and for varying technological content of exports indicates a tipping point in a country’s development from price-driven competition to non-price factors

What drives investors’ behaviour in different FX market segments? A VAR-based return decomposition analysis

We apply the Campbell-Shiller return decomposition to exchange rate returns and fundamentals in a stationary panel vector autoregression framework. The return decomposition is then used to analyse how different investor segments react to news as captured by the different return components. The results suggest that intrinsic value news are dominating for equity investors and speculative money market investors while investors in currency option markets react strongly to expected return news. The equity and speculative money market investors seem able to distinguish between transitory and permanent FX movements while options investors mainly focus on transitory movements. We also find evidence that offsetting impact on the various return components can blur the effect of macroeconomic data releases on aggregate FX excess returns. JEL Classification: C23, F31, F32, G15FX return prediction, investor flows, news surprises, panel estimation, stationary VAR

Global commodity cycles and linkages a FAVAR approach

In this paper we examine linkages across non-energy commodity price developments by means of a factor-augmented VAR model (FAVAR). From a set of non-energy commodity price series, we extract two factors, which we identify as common trends in metals and a food prices. These factors are included in a FAVAR model together with selected macroeconomic variables, which have been associated with developments in commodity prices. Impulse response functions confirm that exchange rates and of economic activity affect individual nonenergy commodity prices, but we fail to find strong spillovers from oil to non-oil commodity prices or an impact of the interest rate. In addition, we find that individual commodity prices are affected by common trends captured by the food and metals factors. JEL Classification: E3, F3commodity prices, Exchange Rates, FAVAR, Globalisation, Oil Price

Determinants of the euro real effective exchange rate: a BEER/PEER approach

This paper presents an empirical analysis of the medium-term determinants of the euro effective exchange rate. The empirical analysis builds on synthetic quarterly data from 1975 to 1998, and derives a Behavioural Equilibrium Exchange Rate (BEER) and a Permanent Equilibrium Exchange Rate (PEER). Four different model specifications are retained, due to the difficulties encountered in specifying an encompassing model. Results indicate that differentials in real interest rates and productivity, and (in some specifications) the relative fiscal stance and the real price of oil, have a significant influence on the euro effective exchange rate. Assessing the existence and the extent of the over- or undervaluation of the exchange rate is not straightforward, since these different specifications often lead to contrasting findings. However, all four models point unambiguously to the undervaluation of the euro in 2000, although the extent of this undervaluation largely depends on the specification chosen JEL Classification: F31, F32

Testing for PPP: Should We Use Panel Methods?

A common finding in the empirical literature on the validity of purchasing power parity (PPP) is that it holds when tested for in panel data, but not in univariate (i.e. country specific) analysis. The usual explanation for this mis-match is that panel tests for unit roots and cointegration are more powerful than their univariate counterparts. In this paper we suggest an alternative ex-planation for the mismatch. More generally, we warn against the use of panel methods for testing for unit roots in macroeconomic time series. Existing panel methods assume that cross-unit cointegrating or long-run relationships, that tie the units of the panel together, are not present. However, using empirical examples on PPP for a panel of OECD countries, we show that this assumption is very likely to be violated. Simulations of the properties of panel unit root tests in the presence of long-run cross-unit relationships are then presented to demonstrate the serious cost of assuming away such relationships. The empirical size of the tests is substantially higher than the nominal level, so that the null hypothesis of a unit root is rejected very often, even if correct.

Towards the estimation of equilibrium exchange rates for CEE acceding countries: methodological issues and a panel cointegration perspective

This paper provides a discussion of methodological issues relating to the estimation of the long-run relationship between exchange rates and fundamentals for Central and Eastern European acceding countries, focusing on the so-called behavioural equilibrium exchange rate (BEER) approach. Given the limited availability and reliability of data as well as the rapid structural change acceding countries have been undergoing in the transition phase, this paper identifies several pitfalls in following the most straightforward and standard econometric procedures. As an alternative, it looks at the merits of a two-step strategy that consists of estimating the relationship between exchange rates and economic fundamentals in a panel cointegration setting - using a sample which excludes acceding countries - and then "extrapolating" the estimated relationships to the latter. While focusing on the first step of such a strategy, the paper also delves into discussing technical aspects underlying the "extrapolation" stage. As a result, the paper endows the reader with the methodological and empirical ingredients for computing equilibrium exchange rates for acceding countries, providing estimates for the long-run coefficients between real exchange rates and economic fundamentals and a discussion of how to apply these results to acceding countries data. JEL Classification: C23, F31acceding countries, BEER, Equilibrium exchange rates, Panel Cointegration

Determinants of the euro real effective exchange rate: a BEER/PEER approach

This paper presents an empirical analysis of the medium-term determinants of the euro effective exchange rate. The empirical analysis builds on synthetic quarterly data from 1975 to 1998, and derives a Behavioural Equilibrium Exchange Rate (BEER) and a Permanent Equilibrium Exchange Rate (PEER). Four different model specifications are retained, due to the difficulties encountered in specifying an encompassing model. Results indicate that differentials in real interest rates and productivity, and (in some specifications) the relative fiscal stance and the real price of oil, have a significant influence on the euro effective exchange rate. Assessing the existence and the extent of the over- or undervaluation of the exchange rate is not straightforward, since these different specifications often lead to contrasting findings. However, all four models point unambiguously to the undervaluation of the euro in 2000, although the extent of this undervaluation largely depends on the specification chosen.euro, equilibrium exchange rates, cointegration, gonzalo- granger decomposition, fundamental analysis, BEER, PEER

Low inflation in the euro area: Causes and consequences

After 2012, inflation has been unexpectedly low across much of the developed world and economists speak of a “missing inflation” puzzle, namely inflation was expected to be higher on the back of an ongoing recovery. This paper investigates the causes and consequences of low inflation in the euro area after 2012 and analyses whether monetary policy has been successful in dampening the risks associated to low inflation. The paper finds that the missing inflation was primarily due to cyclical factors – domestic in the earlier part of the period and global in the latter part – and that the Phillips curve remains a useful tool in understanding inflation dynamics over the period of interest. The succession of negative shocks constrained headline inflation for a prolonged period, and there is evidence of an increase in the persistence of inflation and a fall in the trend inflation rate, which had begun to have a greater influence on longer-term inflation expectations. This may have signalled uncertainty over the effectiveness of unconventional monetary policy measures, but public belief in the ECB’s commitment to keep the annual rate of HICP inflation below but close to 2% has remained intact. The paper concludes that unconventional monetary policy measures are effective in mitigating the downside risks to price stability, curtailing risks of de-anchoring, and expanding aggregate demand

Optimism bias? The elasticity puzzle in international economics revisited

The elasticity of substitution between domestic and imported goods is a central parameter in macroeconomic models, but after decades of empirical studies there is no consensus on its magnitude. Earlier literature using time series arrives at low values, while more recent studies using panel-based econometric methods on disaggregated data find higher values. We examine the econometric methodology of this more recent literature, which follows the seminal work by Feenstra (1994), looking in more detail at the effect on the results of the non-linear mapping between reduced-form and structural parameters. Our main contribution is the use of bootstrap methods, which offer more insight into the Feenstra method and can explain why researchers applying it may tend to find high estimates. The bootstrap not only allows us to obtain considerably less biased estimates of the structural elasticity parameter, but also to better characterize their accuracy, a point vastly overlooked by the literature