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1996-Goldfajn and Valdes-The Aftermath of Appreciations
1996-Goldfajn and Valdes-The Aftermath of Appreciations
THE AFTERMATH
OF APPRECIATIONS
Ilan Goldfajn
Rodrigo O. Vald6s
We would like to thank Rudi Dornbusch, Pierre-Olivier Gourinchas, Peter Henry, Nancy Marion,
Jaume Ventura, and participants of the NBER conference on Determination of Exchange Rates,
seminars at Clark University and M.I.T. for valuable comments and suggestions and Paulo Porto and
Caroline Kollau for research assistance. Of course, any remaining errors are our own. Vald6s would
like to acknowledge support in the form of a Finch Fund Fellowship. This paper was presented at
the NBERs Universities Research Conference on the Determination of Exchange Rates and is part
of NBERs research program in International Finance and Macroeconomics and NBERs project on
International Capital Flows. We are grateful to The Center for International Political Economy for
the support of this project. Any opinions expressed are those of the authors and not those of the
Central Bank of Chile or the National Bureau of Economic Research.
@ 1996 by Ilan Goldfajn and Rodrigo O. Vald6s. All rights reserved. Short sections of text, not to
exceed two paragraphs, may be quoted without explicit permission provided that full credit,
including @ notice, is given to the source.
THE ~ERMATH
OF APPRECIATIONS
ABSTRACT
This paper empirically analyzes a broad range of real exchange rate appreciation episodes.
The cases are identified after compiling a large sample of monthly multilateral real exchange rates
from 1960 to 1994. The objective is twofold. First, the paper studies the dynamics of appreciations,
avoiding the sample selection of analyzing exclusively the crisis (or devaluation) cases. Second, the
paper analyzes the mechanism by which overvaluations are corrected. In particular, we are interested
in the proportion of the reversions that occur through nominal devaluations, rather than cumulative
inflation
differentials.
without nominal
Ilan Goldfajn
Department of Economics
Brandeis University
PO Box 9110
Waltham, MA 02254
Rodrigo O. Vald&s
Research Department
Central Bank of Chile
Agustinas 1180
Santiago
CHILE
Introduction
overvalued.
the discussion.
real devaluation.
of overvaluation
or on its empirical
reintroduced
(sometimes
counterpart,
Although
called misalignment
the magnitude
or just
of the European
System and cast doubts about the success of the future European
magnitude
instability
Monetary
on whether
cause behind each of these crises. There has a]so been some effort in identifying
mon factors to exchange rate crises and major devaluations.
countries chosen in these studies is not adequate
For example,
the question
of crises or devaluations
Power Parity
knowledge,
episodes.
The importance
of describing
easier to understand
rate as an instrument
easy focus point.
as a practical
to stabilize
appreciations
matter.
More generally
appreciations.
and the likelihood
and coordinate
bias
Several countries
inflation
(PPP)
be
little attention
in appreciation
cannot
questions.
occurs.
com-
this reversion
do
economists
of devaluation
is
around
an
1See Dornbusch, Goldfajn and Vald6s (1995); Eichengreen, Rose, and W yplosz (1994) and (1995);
and Edwards (1989) for some recent attempts to characterize exchange rate crises and devaluations.
All these studies find that the RER is overvalued during the period previous to devaluations.
2Klein and Marion (1994) study the duration of peg regimes in Latin America avoiding this sample
selection problem. However, they do not address the questions we try to answer here. Interestingly,
they conclude that the level of the RER is the main determinant of the duration of pegs.
examples.
cases.
Argentinas
economic
sustain
would probably
undermine
outflows
the credibility
d la Mexico.
understand
important.
perspective
the dynamics
rate devaluation.
based stabilizations,
credibility
Krugman
usually accompany
an overvaluation
plausibility
in building
has stressed
currency
on exchange-rate
the importance
in that literature,
explanation.
of imperfect
is defined as the
it is possible to correct
inflation
differentials
the
is.
analyzes a broad range of real exchange rate appreciation
we define appreciations
as PPP departures
medium run. The cases are identified after compiling a large sample of monthly
tilateral
that
inflation
whether
exchange
Credibility,
a model to discuss
to
is an appreciation
their
such stabilizations.
without
of how likely it is
and especially
for Argentinean
as an explanation
Thus,
For example,
Peso will
of appreciations,
Even
of the governments
From a theoretical
in real terms.
policymakers
depend
Peso appreciated
of appreciations,
is twofold.
mul-
First, the
3See Rebelo and V6gh (1995) for an evaluation of competing explanations of the stylized facts of
exchange rate-based stabilizations.
and exchange
are as follows:
duration
cases. In particular,
First,
rate arrangement
of the appreciation
build-up
their duration,
characteristics.
are considered.
are corrected.
In particular,
(or cumulative
inflation
differentials).
We calculate
section
trates
real depreciation
also calculates
exchange
episodes.
of appreciation
that
Section 3 characterizes
ap-
Section 4 decomposes
the
that takes
differentials,
respectively.
adjustment.
Section
5 concen-
transition
matrices.
on the dynamics
framework
Note
nominal
of successful ap-
return-to-equilibrium
of the reversions
the probability
place through
Second,
nominal devaluations
preciation
the
occurs through
preciations
between
phases.
temporal
This
Methodology
and Data
movements
around
previous
attempts
a sound empirical
concept
In fact, we speculate
to characterize
counterpart
overvaluations
is the
to any definition
of the
4We formally define the term successful appreciation in section 4. For now, we mean appreciations
that end without large nominal devaluations.
0.35{1
Appreciation [Percentage)
Figure 1: Probability
equilibrium
of Successful Appreciation
Z.
It is based on the
costs,
free trade in goods should ensure identical prices of these goods across countries.
implies that the same basket of goods in two different countries
the
This
price, or P1/Pz = 1.
This paper denotes by overvaluation
partures
generates
or appreciation
to occur through
unsustainable
current
deviations
account
deficits through
(or over-
An overvalued
the loss of com-
petitiveness.
The latter
domestic
prices expressed
(P.).8
to
levels. 7
in foreign currency
All
Price of exports
disaggregate
goods
(1)
e = {~(Pm
P:)
+8(P.
P;)}
we have:
+ {7(P.
+ {(~
Pi)}
(P P)Pj+ (77)P:},
~)P2+
or equivalently,
e=
Departures
This amounts
to:
Pz =P~
We can abstract
there will be no
and
Pm =P~,
from the direct Terms of Trade effect if we assume that the weights
If a a = O, ~ ~ = 0 and ~ y = (),
then we have:
e=
P:)}
{Y(P.
Pl)}j
(2)
namely departures
RER is a trend-stationary
stochastic process that is if it tends to revert towards its mean. Recent studies have shown that
this is indeed the case. See Froot and Rogoff (1995), Isard (1995) and Breuer (1994).
Here the subscript m (or x) represents the import (export) good in the home country which is,
also, the export (import ) good of the rest of the world.
price differences.
in the overvaluation
measure.
Therefore,
One approach
mentals
by regressing
proportion
in the paper.
without
move-
are related
to nontradable
of nontraded
the two
prices should be
pres-
capture
simple procedure,
approach
Besides being a
we calculate
Epr = a + T~,
where EP~ is the predicted
time trends
(3)
by T.
are calculated
real exchange
as follows (normalizing
RER is in equilibrium):
(4)
where E is the original series.
An example of these movements is the Balassa-Samuelson effect. When there is a productivity
growth differential between the traded and nontraded goods sectors and this differential is not
homogeneous across countries, then the (cross country) relative prices of nontraded goods, and
therefore, the RER, will change over time.
100ne could argue that some of the fundamentals chosen may also be related to the departures
from the law of one price. In this case, this second approach will tend to underestimate the extent
of overvaluation. Since the first approach does not control for fundamentals and may overestimate
the extent of overvaluation, one can interpret the resulting two series as defining the boundaries of
the true overvaluation episode.
11Since the RER is trend-stationary this is a perfectly valid procedure.
2.1
with movements
Thus,
in fundamentals.
we calculate
prices do change
from
(2).
from movements
of non-
Terms of Trade
(TOT)
the demand
nontradables
permanent
shock,
the demand
income.
for nontradables
Otherwise,
national
even temporary
and smooth
run.
the resultant
predicted
RER through
procedure
values,
is to
In this way
problem
Government
An expansion
Spending
price of
effect on the RER. Here we assume that TOT affect the equilibrium
supply effects only in the long and medium
income
for
In equilibrium,
in
in government
for nontradables.
goods.
the
12One may consider capital inflows as an additional fundamental. However, these flows are just
the counterpart of the current account plus reserves, and therefore, are simultaneously determined
with the RER. For that reason, we chose not to include them in the regressions.
13See Edwards (1989).
government
propensity
to consume
When thepropensities
arethe
on how permanent
As a general
more temporary
the government
spending
Openness
looking
prices increases
proportionally)
the
the
consumption
are(Ricardian
is financed by
Openness
inexpenditures
looking consumers
are consumers.
private
nontradables
GDP.
world
plus
toGDP.
A trade liberalization
generates
an equilibrium
perspective.
RER depreciation
from a labor
in the
price of nontradables.14
Some transitory
rium RERs.5
may generate
These movements,
in equation
the
in our equilibrium
to movements
in
estimate.
moving average.
2.2
Figure
2 presents
an appreciation
our estimate
an example
of an appreciation
episode.
of equilibrium
a certain
threshold
the actual
RER and
(3) or (5))
associated
of
appreciation.
months
to classify
as such.
Real
Exchange
Rate
PredictedRER
Time
History
Figure2:
Appreciation
Start
Peak
Episode Definition
End
and Phases
i.e.,
is the highest,
when theappre-
period.
There are also two phases:
Peak-End,
representing
History-Peak,
the return
representing
to a normal
the build-up
problem
and
level.lG
16The phases add-up to more than an episode because the latter does not include the buildup to the appreciation threshold. In characterizing episodes, we are interested in what happens
conditionally on being appreciated, not just in general.
10
2.3
Data Description
data of 93 countries
sample
Statistics.
We construct
of bilateral
or imports).
is presented
in appendix
either exports
partners
the
~ade
Financial
Nations
Yearbook of
D.
as a trade-weighted
encompassing
average
Statistics
in appendix
E,17
In order to minimize the effect of movements
our empirical
may contain
measure
a large proportion
of nontraded
in nontradables
walk hypothesis
prices, we construct
Consumer
price indices
It is not surprising,
have
tests.
When countries
do
not have a reliable WPI series we use CPI. This is the case with some developing
countries
(see appendix
D for a complete
tend to have
process.
our RER construction
of an imported
intermediate
list).
Although
at home.
This
the WPI may not be a good proxy for their price level
we do not control for these cases and, therefore,
some appreciation
we
to equilibrium.
17We checked for data errors in the original data using graphic methods. The price series of El
Salvador for 1977 was geometrically interpolated from December 1976 and January 1978 because
it shows a break in 1978 (the IFS flags the series as having a break and it shows deflation of 21%
in 1 month). Missing values of price data of Ghana (Apr. 81Jan. 82), Iran (Jul. 86Mar. 89), and
Kuwait (Jan. 84Dee. 84) were also interpolated.
11
In order to analyze the role of the nominal exchange rate and inflation differentials
in the return-to-normal
for each month
and country.
ment description
Restrictions.
rangement
The report
status
presents
as of December
report
presents
ments.
describing
a description
Exchange
the principal
a summary
to construct
features
of the exchange
a monthly
statistics
a nominal
arrange-
and Exchange
ar-
of changes during
exchange
of the arrangements.
Arrangements
country.
arrange-
Appendix
describing
the arrange-
and
is an unknown
basket we usually
exchange
rate with respect to SDR (in some cases we use the last peg); when the arrangement
is floating we use the currency used in the last peg that was in place. la
The data
and export
plus imports
their duration,
temporal
spending
completed
(as
with the
Appreciations
of appreciation
distribution
conclusions
can be summarized
asymmetry
between
phases.
and the
several features
frequency
Characterizing
normality
has annual
of fundamentals
cases that
and exchange
of the appreciation
we present
evidence
In particular,
the duration
Second,
that
build-up
The main
fixed arrangements
are more
18We classify target zones with a width less than 7% as pegs, We classify crawling pegs, managed
floating, and periodic adjustable pegs aa flexible arrangements and use the underlying nominal
exchange rate for our index.
lgIn order to use these data in monthly regressions we interpolate the yearly data using June as
the base month.
12
Third,
we show that
appreciation
more often during the last part of our sample period (1980-94).
that episodes are notably
3.1
episodes
happen
are considered.
Number of Appreciations
The number
of appreciations
(the threshold
these results.
Cutoff
(percentage)
As expected,
example,
Episodes
RER Estimate
Trends Only
Fundamentals
15
173
158
20
111
91
25
71
56
30
52
34
35
36
20
the number
of episodes
RER estimation.
equilibrium
on both the
The methodology
detected
cutoff (for
disregards
some appreciations
of fundamentals)
are now
.20
20We also get some new episodes because of movements in fundamentals. We smoothed the
predicted RER in order to minimize the number of false appreciation ewes the ones driven by
excess movement of our equilibrium values. See section 2.1.
13
3.2
Duration
and whether
different between
out controlling
incomplete
and Peak-End
defines
Moreover, duration
is very
of15%and
of average duration
cases.
of Appreciations
Entire Episode
(Months)
History-Peak
Peak-End
Trends - 15%
22.2
19.5
11.1
Trends - 25%
22.8
26.8
11.1
Fundam.
- 15%
11.2
10.2
6.8
Fundam.
- 25%
8.5
12.3
4.6
approximately
of appreciations
2 years.
average duration
period.
produced
We also present
to estimate
of shorter duration
History-Peak
of the Peak-End
of the History-End
Using fundamentals,
fundamentals
equilibrium
that
phases.
thresholds
equilibrium
are considered.
cases: appreciation
for fundamentals.
including
depends
fundamentals
the History-Peak
in months,
of appreciations
and Peak-End
phases.
phase is approximately
Interestingly,
the frequency
histograms
considering
of duration
of the History-Peak
of our benchmark
to
is independent
of duration
of the threshold
14
threshold
phases duration
with
hold.
cases.
and Peak-End
Figures 19 to 22 in appendix
fundamentals.
the
by nominal devaluations.
ation threshold
drops by
the
Duration
is highly asymmetric
of the History-
and whether
fundamentals
This
are con-
sidered.
Also, including
fundamentals
cases that remained being an episode when the data of the respective country ended. If
these cmes had significantly
longer durations
by trends
and fundamentals)
appreciations
(not
conclusion
are almost
complete
Episodes
of Incomplete
(number)
Appreciations
History-Peak
Peak-Incomplete
Trends - 15%
15.1 (16)
16.6
7.8
Trends - 25%
11.4 (5)
20.4
6.8
Fundam.
- 15%
7.4 (8)
11,6
2.3
Fundam.
- 25%
9.0 (3)
17.7
1.7
Temporal Distribution
Several structural
distribution
capital
of
ewes.
3.3
changes
of appreciation
mobility,
and exchange
the temporal
arrangements
bunching
of cases
towards
some countries
of cases. Instead,
of cases is a misleading
indicator
21See appendix C for a description of exchange arrangements during our sample period.
15
of
I.............................
...
...
...
,...
...
.
Duration (Months)
Figure
3: Histogram
of Duration
- Trends
Only
0.2-
z
E () 15. .
g
&
o.1-
o.05-
o- f
Duration (Months)
Figure 4: Histogram
of Duration
16
- Fundamentals
0.3
0.25
0.1
0.05
0
Duration (Months)
I=
History-Peak _
Figure 5: Phwes
Duration
Peak-End
- Trends Only
.....................................................................................
I..............>,
...................................................................I
~..................................
.......m
y+
~ 0.25
...............................................................
E 02
E 0.15
0.1
0.05
0
1-3
4-6
Im
7-12 13-1819-2425-3637-48
Duration (Months)
Histow-Peak
17
48+
Peak-End
- Fundamentals
countries
threshold
of
A.
The graphs show that towards the second part of our sample the number of cases
clearly increases.
cases as during
In fact, during the period 198094 there are at least twice as much
196075 (controlling
Interestingly,
of episodes around
3.4
episodes).
The
there is a notorious
bunching
198085.
of exchange
some countries
C describes
statistics
for fundamentals
of potential
Exchange Arrangements
arrangements
is towards
our characterization
of exchange
arrangements
al-
Appendix
and presents
summary
the episodes
appreciation
(more specifically
and Peak-end
has increased
Because
type of arrangement
We then calculate
a weighted
of each
proportion
Table 4 presents
The
these
22Notice that this ratio is not immune to composition effects. An example is given by developed
countries having more data, and being less likely to suffer appreciations.
23Using a panel of annual data, Ghosh et al, (1995) study the impact of exchange arrangements on
inflation and growth. They conclude that fixed regimes have less inflation and that the arrangement
is unrelated to growth.
241ncases in which episodes have more than one arrangement we calculate the episodes proportion
of each arrangement according to the number of months each arrangement ww in place.
18
5 Yew Period
Figure 7: Temporal
Distribution
- Trends Only
5 Year Period
Figure
8: Temporal
Distribution
19
- Fundamentals
results.
Trends
Fundam.
Fundam.
15%
25%
15%
25%
History-Peak
Fixed
68.9
79.3
74.1
74.4
Phase
Flexible
24.5
17.9
21.6
22.1
Floating
6.6
2.8
4.4
3.4
Dual-Mult.
32.3
40.1
37.0
54.8
Peak-End
Fixed
63.1
71.9
68.6
65.7
Phase
Flexible
29.2
24.4
25.0
26.9
Floating
7,7
3.6
6.3
7.4
Dual-Mult.
35.8
48.2
36.2
50.9
Total
Fixed
62.0
60.8
61.5
59.7
Population
Flexible
31.3
32.4
31.9
33.3
Floating
6.7
6.8
6.7
7.0
Dual-Mult
16.9
17.1
17.5
17.5
Average calculated
The results
preciations.
show that,
percentage
as expected,
bands, adjustable
and multiple
countries
exchange
are considered.
rates,
the results
show that
during
as implying
ity of appreciating.
In terms of dual
appreciations
could be interpreted
an episode starts
that dual-multiple
episodes,
times.
This
20
Flexible
When
in order to
of certain sectors.25
and Peak-End
rate arrangements
happens
phases.
is notably
In particular,
arrangements.
fundamentals
The contrary
of appreciation
Dual systems
during the
of fixed exchange
period,
hold independently
are included.
the proportion
regimes,
prevailing
do not appear
to the
by flexible exchange
thresholds
and whether
either
phase.
Nominal
Exchange Rate-Inflation
Decomposi-
tion
in this paper is whether
episodes
More specifically,
we constructed
a monthly
exchange
nominal
rate?
a country
In order to decompose
equilibrium
Successful
can then be defined as episodes that require less than a certain threshold
change we have
25This effect also means that, in these cases, the nominal exchange rate used to calculate the real
exchange rate loses its relevance.
26There is an important issue regarding appreciation cases that happen after a structural break
in the equilibrium RER. Our methodology does not allow for such changes, so we count this break
21
the identity:
AE = ANom + A (P P)
where Nom is the nominal
We
4.1
Detrended
4.1.1
Successful
RER
Index
Distribution
of our successful
indicator
S.
Knowing
this distribution
of successful is
to the threshold
for S. In particular,
successful,
threshold
(trends
of the S indicator
as the equilibrium
inflation differential
was partially
Finally,
concept).
devaluation
does
does all the work. There are few cases in which the appreciation
comparing
is 25Y0.
Cutoff
(arbitrarily)
We observe
successful.
are considered,
tion:
more than all the work.27 There is also some mass in totally
4.1.2
the
a successful appreciation
We define
as an episode (that has an end). The key is that if this is the case, then the RER during the whole
episode is not under any pressure and nominal devaluations should not occur. This biases our results
towards observing successful cases.
ZTInflation differentials may have a negative contribution to the return. In this cases, nominal
devaluations do more than all the work.
22
Figure 9: Histogram
.....................................................................................
~f
$
. . .. . . . . . . . .. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ..
~
------------------------------------------------------------------------------------
.,,
1.0+
23
of Successful Appreciation
- Trends Only
conclusions
probability
that
4.1.3
This probability
without
of success).
only 10% of the cases are
devaluation;
real depreciation
exchange
is required.
Successful
This subsection
caused less than
relatively
to undo an appreciation
rate correction
Episodes:
Description
real depreciation,
24
as
of 25% or more,
Start-Date
Episodes
Duration
Actual
Actual
Fixed
Estimated
(months)
Build-up
Deprec.
X-Arr
Build-up
Paraguay
oct.77
22.6
32.3
1.0
25.1
Nepal
oct.72
22,1
36.5
1.0
27.0
Sri Lanka
Aug.7O
86
-9.7
196.0
0.7
37.3
Sri Lanka
Feb.94
14.0
5.4
0.0
25.1
Burundi
Feb.85
16
23.4
40.9
1.0
27.5
Ethiopia
Aug.84
22
35.0
55.1
1.0
37.7
Nigeria
Jan.6O
45
-4.1
1.0
34.1
Success if S >0.50-
Appreciation
fixed arrangements
= 25%
almost
arrangements
Threshold
the probability
arrangements.
is small.
of success of these
in the first place (or at least weight its benefits with the high probability
of future
devaluation).
Finally,
notice that
appreciation
during
return-to-normality
appreciations
4.2
RER
a couple of successful
the build-up
phase.
mends
period
episodes
or an actual
real
real depreciation
the
and Fundamentals
RER calculated
with
as
If one repeats the exercise of the last section using the predicted
fundamentals
during
is stronger:
there are
....................................................................................
1.0+
of Success -Fundamentals
(15%)
4.3
Conditional Probabilities
This subsection
reports
ferent characteristics.
of the sample,
probabilities
Table 6 presents
of successful
the results.
appreciations
of successful appreciations
of the episodes.
Third,
on dif-
conditional
pattern
is substantially
relating success-
as expected,
through
flexible and
price changes.
26
of RER reversion in
In particular,
we would
of Success - Fundamentals
(2570)
0.25
J
%
0.2
0.05
c
AppreciationThreshold(7.)
Figure 14: Probability
of Successful Appreciation
27
- Fundamentals
Table6:
Probability
of Success-Different
(Percentage)
Sampling
Trends Only
Apprec.
Total
Float and
Start after
Long
Threshold
Sample
Flexible
1980
Duration
15
22.5
8.3
14.9
21.5
20
12.6
6.3
10.5
15.7
25
9.9
5.6
6.1
9.6
30
5.8
0.0
2.6
7.9
35
5.6
0.0
3.6
6.9
Fundamentals
Apprec.
Total
Float and
Start after
Long
Threshold
Sample
Flexible
1980
Duration
15
32.3
2.2
16,8
38.0
20
24.2
3.8
13.6
33.3
25
10.7
0.0
5.3
16.0
30
2.9
0.0
3.8
5.6
35
0.0
0.0
0.0
0.0
Long duration
= End Start
28
>6 months.
of returning
to equilibrium
Reconstructed
the probability
episodes,
transition
matrices forour
appreciation
of appreciation.
Table 5 presents
the results for the case of trend RER. There are two points to
diagonal
terms (shadowed
for contrast)
this is a consequence
although
show substantially
of the relatively
the appreciation
of returning
As expected,
With 48 months,
appreciation
degree
the whole
to an appreciation
for example,
the probability
of reversing
figures.
as
of return.
times as 1, 3, 24 and
curve obtained
where increasing
for the
the level of
matrices
there is a threshold
5%
It shows that
of less than
of return.
30% in ta-
deepens.
48 months,
in large appreciation
A) shows
(O,24 to reach a value lower than 570). This result shows that smooth
Figure
In
6 and 12
returns
All the
time shown:
(shown in appendix
in RERs.
higher probabilities.zg
short transition
appreciation
show
in the past.
highlight
lower inertia,
the matrices
months,
on a given degree
the conditional
part,
is positively
to
28There is a substantial larger mass in the diagonal term of appreciations of equal or higher than
3070. However, there is also more support in this area.
29
Table 7: Transition
Matrices
of Appreciations
Detrended
Appreciation
-6 and 12 Months
RER
Threshold
6 Months
= 15%
Matrix
! 0.05
20-15
15-10
10-5
5-
0.02
0.02
0.01
0.24
~ 30-25
25-20
0.23
0.19
0.08
0.20
20-15
0.02
0.18
15-10
0.00
0.26
i
=
0.00
0.50
10-5
12 Months
Matrix
0.04
0.03
0.03
10-5 ~ 50.01
0.441
0.11
0.08
0.05
0.02
0.36
0.12
! 0.36
b.
20-15
0.04
0.07
15-10
0.01
0.01
0.04
0.01
0.00
0.03
10-5
~ 0.03
30
0.09
~]jlm
0.74
o
\
<0
\\
~o
..,
\
\
:F
:$
48 Months
I\
---
\
\
05
24 Monihs
12 Months
--
--
//
::
---
_
I
10
6 Months
.
----
----
----
___
____
I
15
20
3 Months
----
-I
25
1 Month
30
35
Figure
15: Degree
of Appreciation
and Probability
31
of Return
- Trends
Only
of return.
and, therefore,
to cover, have
slope part of the curves. On the other hand, as the degree of appreciation
deepens there are pressures that make the RER return to the equilibrium
above) which will tend to increase the probability
the pressures
Figure
(as defined
15 shows that
reaches 2025%.
of return.
reversion.
by the
(S <0.05
devaluation,
as opposed
magnitudes
are important
as a benchmark,
of return,
(the shorter
distance
increases from
of collapse is higher).
obtained
for fundamentals).
plotted
from a 5% appreciation
Therefore,
curves.
of return
probability
of equilibrium
the probability
We repeat
The
The transition
matrices
shown
ones described
above, There are minor differences between figures 17 and 18 and the
corresponding
(see description
of collapse as a function
when we
in the previous
section),
the 24
of reversal is close
month schedules).
gHere each month of an episode corresponds to an observation. Before, in subsection 4.1.2, each
episode was an observation.
32
48 Months
/
/
24 Months
/
/
.
/
/
. =
---
/
12 Months
~\
Months
\
. ____
----
_-
\
I
05
10
~=-
----
--~
.
-I
-
I
15
20
----
-.
I
25
3 Months
_I
Month
30
35
and Probability
33
of Collapse -~ends
Only
Table 8: Transition
Matrices of Appreciations
-6 and 12 Months
Threshold
6 Months
= 15V0
Matrk
30-25I 25-20
30+
30-25
25-20
20-15
15-10
= 10-5 .
0.05
0.01
0.00
0.03 I 0.10
12 Months Mat&
RER Appreciation in t+12 months
34
20-15 15-10
0.02
0.03
0.03
0.04
0.07
0.13
0.03
0.03
0.01
10-5
0.01
0403
0.06
0!12
0.16
50.80
0.84
0.73
0.63
0.66
0.90
-.-.-F
I
r-
---
----
___ ----
----
---
24 Months
---
---- ---
/..
12 Mon(hs
<o
/
/
.
/
/
6 Months
3 Months
/ _--
+J
.
\
\
\
i o
:
::
-----___
------
\
r
/
/
/
/ /
\
_
.-
Month
/
/
10
15
20
25
30
35
and Probability
35
of Return
- Fundamentals
48 Months
24 Mon{hs
12 Months
/
/,
6 Months
,,,,/
:,.y
/,-
.
.
05
3 Months
. .
. _- ~.
----
~=-
/
/
_
10
1 Month
//-
___
15
20
25
30
35
and Probability
36
of Collapse - Fundamentals
Subsampling
We calculated
the previous
Second,
latter including
There
we divided
of our data.
our sample
matrices
and probability
of
are no significant
differences
between
transition
between
As expected,
(the
episodes do
of collapse (as in
figure 16).
Conclusions
and Mexican exchange rate crises during the fist half of the 90s,
in explaining
the probability
future devaluations
of devaluation
sample of 93 countries
rate looking at a
show that
it is relatively
unlikely
to smoothly
undo appreciations
25%.
In our sample,
collapse-free return,
This probability
falls as we concentrate
greater
than
transition
matrices
and
episodes.
They
show inertia in the real exchange rate for short periods of time: the RER tends to stay
overvalued and at relatively the same level for 3 to 6 months.
More importantly,
they
also show that, in a given period of time, it is much more probable to undo completely
the appreciation
end abruptly
in very appreciated
cases.
The transition
collapse
(excluding
horizon as a benchmark,
the probability
This
nominal
devaluations).
of
Taking a 24 month
37
appreciations
the appreciation
in the build-up
cases.
We show
phase
and are more likely to occur in fixed exchange regimes and during the last part of our
sample period, in particular
References
[I] Breuer, J. B. 1994. An Assessment
In Estimating
Equilibrium
DC: Institute
for International
[2] Dornbusch,
Washington,
Economics,
Economics
Power Parity,
Goods,
Journal
of International
4(2): 177-85.
[3] Dornbusch,
R. 1987. Purchasing
nary, edited
by J. Eatwell,
Power Parity.
New York:
Stockton
Press.
[4] Dornbusch,
R., I. Goldfajn,
Activity
Rates,
1995:2.
Devaluations
and Adjustment.
Cam-
Pegged Exchange
1994. Speculative
Attacks
Monetary
on
Sys-
The Antecedents
and Aftermath
of Speculative
Attacks.
[9] Frankel
Empirical
Discussion
on PPP:
Policy,
Mean Reversion
Economic
Crises in Emerging
Markets:
In Handbook of International
Economics,
Real Ex-
edited by G. Grossman
[11]Ghosh, A. R., A. Guide, J. D. Ostry, and H. C. Wolf, 1995. Does the Nominal
Exchange
Rate Economics.
Cambridge:
Cambridge
University
Press.
[13] Klein, M,, and N. Marion.
1994. Explaining
the Duration
of Exchange
Rate
Crises Self-Fulfilling?
Paper presented
at the
1996.
[15] Rebelo, S., and C. A. V6gh, 1995. Real Effects of Exchange Rate Stabilizations:
An Analysis
of Competing
MA: National
[16]Williamson
Theories.
Bureau of Economic
J. 1994. Introduction.
edited by J. Williamson.
Washington,
NBER
Marco Annual
1995. Cambridge,
Research.
In Estimating
DC: Institute
39
Equilibrium
Exchange Rates,
for International
Economics.
Further Results
Appreciation Threshold = 1590
o
0
0
8
u
o
s
~o
E
o
0
Duration(Months)
of Duration
40
- Trends Only
,n.,;,;
$
o.4~
0.35-
............................
[f[/j f:
-12
13-18.19-24.25-3637-48
48+
Duration(Months)
Figure 20: Histogram of Duration - Fundamentals
0.4
......
0.35
0.3
0.25
.....
0.1
.....
0.05
.....
1-3
Histov-Peak
48+
Peak-End
41
. . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . .
g o.5- ............
z
u
............
~ o.4-
G
............
.8 0.3-
&
............
~ o.2- .
........................................................................................
........................................................................................
.....................................................................
.-.,,
!]
1,
..................................................................
0.1- ............
1-3
4-6
Im
48+
Histov-pak
m peak-End
- Fundamentals
Distribution
- Trends Only
Table 9: Transition
Matrices of Appreciations
Detrended
Appreciation
RER
Threshold
24 Months
= 15%
Matrix
30-25
25-20
20-15
0.09
0.04
30-25
25-20
20-15
15-10
10-5
5-
0.66
0.56
0.59
0.05
Months
RER Appreciation
Matrix
in t+48 months
0.01
0.02
0.03
0.02
43
I 0.88
I 0.79
I 0.80
,I 0.85
5 Year Period
Distribution
44
- Fundamentals
Exchange Arrangements
Description
Arrangements
3.
4.
5.
Peg to SDR
6.
Cooperative
7.
8.
Managed
(flagged)
arrangements
(e.g. EMS)
9. Pree floating
Arrangements
Dual-Multilateral
We consider
as floating.
O.
1.
Table 10 presents
1 to 6 as fixed regimes,
the distribution
aggregates,
proportion
the distribution
7 and 8 as flexible,
of the proportion
of each of these
45
and 9
60-64
65-69
70-74
75-79
80-84
85-89
90-94
Fixed
0.98
0.97
0.90
0.65
0.53
0.47
0.42
Flexible
0.01
0.03
0.07
0.29
0.40
0.45
0.46
Float
0.01
0.00
0.03
0.06
0.07
0.09
0.12
60-64
65-69
70-74
75-79
80-84
85-89
90-94
0.78
0.77
0.64
0.37
0.26
0.21
0.18
0.07
0.07
0.08
0.03
0.00
0.00
0.01
0.11
0.11
0.13
0.11
0.10
0.10
0.10
0.01
0.01
0.01
0.01
0.00
0.01
0.01
0.01
0.01
0.01
0.05
0.08
0.06
0.02
0.00
0.00
0.03
0.08
0.09
0.09
0.10
0.00
0.00
0.02
0.12
0.13
0.12
0.12
0.01
0.03
0.05
0.17
0.27
0.33
0.34
0.01
0.00
0.03
0.06
0.07
0.09
0.12
0.14
0,16
0.20
0.16
0.18
0.20
0.14
Dual
46
Initial Sample
This appendix describes the initial sample of countries, data coverage for each country,
original frequency of series, and the price index used in the construction
Country
Price
Original
RER
Index
Frequency
Coverage
Austria
AUT
WPI
Monthly
60-94
Belgium
BEL
CPI
Monthly
60-94
Denmark
DNK
WPI
Monthlv
60-94
4 I Finland
I FIN
5 I France
6 I
Germany
7 I Greece
8
Hungary
9 I Ireland
I Monthly
60-94
I FRA I CPI
I Monthly
60-94
I GER I WPI
I Monthly
60-94
I GRC I WPI
I Monthly
60-94
WPI
Monthly
I IRL
I WPI
I Monthly
HUN
I WPI
68-94.6
I 60-9-4.10
10
Italy
ITA
WP1
Monthly
6094
11
Netherlands
NLD
WPI
Monthly
60-94
12
Norway
NOR
WPI
Monthly
60-94
13
Poland
POL
WPI
Monthly
80-94
14
Portugal
PRT
CPI
Monthly
60-94
15
Romania
ROM
CPI
Monthly
81-94
16
Spain
SPA
WPI
Monthly
60-94
17
Sweden
SWE
CPI
Monthly
60-94
18
Switzerland
SWT
WPI
Monthly
60-93.5
19
Turkey
TUR
CPI
Monthly
69-94
20
UK
UKG
WPI
Monthly
60-94
21
Argentina
ARG
WPI
Monthly
60-94
22
Bolivia
BOL
CPI
Monthly
60-94
23
Brazil
BRA
WPI
Monthly
60-94
24
Canada
CAN
WPI
Monthly
60-94
25
Chile
I CHL I WPI
Monthly
6&94
47
of the RER.
Price
Original
RER
Index
Frequency
Coverage
26
Colombia
COL
WPI
Monthly
60-93
27
Costa Rica
CRI
WPI
Monthly
60-94.1
28
Ecuador
ECU
WPI
Monthly
75-94
29
El Salvador
SLV
WPI
Monthly
60-94.10
GTM
CPI
Monthly
60-94.10
30 Guatemala
31
Haiti
HTI
CPI
Monthly
60-94
32
Honduras
HND
CPI
Monthly
60-94
33
Jamaica
JAM
CPI
Monthly
60-94
34
Mexico
MEX
WPI
Monthly
60-94
35
Paraguay
PRY
WPI
Monthly
60-94.4
36
Peru
PER
CPI
Monthly
60-94
37
TTO
CPI
Monthly
60-94.10
38
us
USA
WPI
Monthly
60-94
39
Uruguay
URY
CPI
Monthly
60-94
40
Venezuela
VEN
WPI
Monthly
60-94
41
Australia
AUS
WPI
Monthly
60-94
42
Indonesia
IDN
CPI
Monthly
71-94
43
New Zealand
NZL
CPI
Quarterly
60-94
44
PNG
CPI
Quarterly
71-94
45
Bahrain
BHR
CPI
Monthly
75.7-94
46
Bangladesh
BGD
CPI
Monthly
74.7-94
47
China
CHN
Infl.
Monthly
69.3-94.9
48
Hong Kong
HKG
CPI
Monthly
69.3-94.9
49
India
IND
WPI
Monthly
6W94
50
Iran
IRN
WPI
Monthly
60-94
51
Israel
ISR
WPI
Monthly
68-94
52
Japan
JAP
WPI
Monthly
60-94.9
53
Jordan
JOR
CPI
Monthly
76-94
54
Korea
KOR
WPI
Monthly
60-94
55
Kuwait
KWT
WPI
Monthly
73-9.6
48
Country
Price
Original
RER
Index
Requency
Coverage
56
Malaysia
MYS
CPI
Monthly
60-94
57
Nepal
NPL
CPI
Monthly
63.7-94.6
58
Pakistan
PAK
WPI
Monthly
61.7-94
59
Philippines
PHL
WPI
Monthly
60-94
60
Saudi Arabia
SAU
CPI
Monthly
80.2-94
61
Singapore
SGP
CPI
Monthly
60-94
62
Sri Lanka
SLK
CPI
Monthly
60-94
63
SYR
WPI
Monthly
60-94.9
64
Thailand
THA
WPI
Monthly
60-94
65
Algeria
ALG
CPI
Monthly
74-94
66
Burkina Faso
BFA
CPI
Monthly
60-93
67
Burundi
BDI
CPI
Monthly
74-94
68
Cameroon
CMR
CPI
Monthly
68-90.9
69
Central Africa.Rep.
CAF
WPI
Monthly
65-94.7
70
Congo
COG
CPI
Monthly
64-94.7
71
Egypt
EGY
WPI
Monthly
60-94.11
72
Ethiopia
ETH
CPI
Monthly
66-94.10
73
Gabon
GAB
WPI
Monthly
63-94.6
74
Ghana
GHA
WPI
Monthly
63-94.9
75
Ivory Coast
IVC
CPI
Monthly
60-94.9
76
Kenya
KEN
CPI
Monthly
68-94.2
77
Liberia
LBR
CPI
Monthly
68-90.6
78
Madagascar
MDG
CPI
Monthly
64-94
79
Malawi
MWI
CPI
Monthly
80-94.7
80
Morocco
MAR
CPI
Monthly
60-94
81
Niger
NER
CPI
Monthly
68-94
82
Nigeria
NGA
CPI
Monthly
60-94.9
83
Rwanda
RWA
CPI
Monthly
65.4-93
84
Senegal
SEN
CPI
Monthly
68-94.9
85
Sierra Leona
SLE
CPI
Monthly
86.10-94.9
49
Country
/86
I Somalia
ISOMI
Price
Original
RER
Index
Frequency
Coverage
Monthlv
163.10-89.111
CPI
SAF I WPI
I Monthly
60-94
I 88 I Sudan
ISDNI
CPI
I Monthly
60-94.6
I 89 I Togo
lTOGl
WPI
I Monthly
70-93
I 90 I Tunisia
I TUN I CPI
I Monthly
87.7-94
I 91 I Zaire
I ZAR I Infl,
I Monthly
63-94
I 92 I Zambia
I ZMB I CPI
] Monthly
67.4-94
I 93 I Zimbabwe
I ZWE I CPI
I Monthly
78-94
50
Trade Weights
Trade
USA JAP
BEL
FRA
GE~
,06
,33
DNK
.10
FIN
.13
FRA
.13
GER
.12
,06
GRC
.05
.05
,16
.04
,06
ITA
.26
...
lTA
.. .
1?
NLD
.08
NOR
.12
.22
.16
.13
.16
.14
,26
.10
.05
.54
.04
,11
,05
.W
anu.-
?0.
.
.21
.08
.49
,26
,,.
I
I
.05
.Zb
-
.12
-
I
1
.30
.IQ.
.20
-
I
r
,34
,45
.17
.16
,19
o.
,41
.a.
.12
n,
.17
,
1
I
1
I
1
I
I
I
.14
.18
ECU
,14
,13
,6.9
.09
.08
SLV
.57
GTM
.76
HT1
.81
WND
Al
JAM
.57
M EX
.84
..-
.08
-.
.U1
la
- .31
.11
I
,.
,29
OR
.20
,U7
.06
.09
,06
.11
.07
nc
1
,-
n?
,-
nfi
1
.-.n.
In
,15
,06
.06
PRY
.15
.13
.52
.15
.14
TTO
.87
.35
.09
.07
.21
.04
.13
.16
.42
.09
.10
.08
WRY
,16
VEN
,82
AUS
.37
.44
lDN
.22
.58
.09
.05
.05
,09
.47
.19
.13
.13
NZL
.25
,26
PNG
.09
.34
BHR
.10
.07
.50
.05
.10
.08
.11
.12
,32
,09
.08
.40
.09
,74
BGD
.44
.15
,07
CHN
,16
.23
.04
.57
HKG
.26
.10
.05
.50
lND
.31
.20
.19
.21
,45
.19
.15
.06
,15
IRN
ISR
,44
.17
JAP
.66
.14
JOR
.31
KOR
,54
.46
.10
KWT
,21
.21
,13
.23
.20
,07
PER
USA
.10
IQ
.11
d
.30
.18
.17
.11
,01
.29
I
I
.1.9
SWE
.06
.13
.41
.11
SWT
.75
.22
.09
.08
.-.
.13
Others
.27
.12
.6B
AUS
.17
SPA
sGP
.15
ROM
CR1
SAW
.21
.30
SAF
,16
.06
TUR
.,,. -
BRA
,18
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.05
ARG
.10
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POL
.23
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.12
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Partners
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.29
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HUN
sPA
.09
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.16
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.08
.18
.20
.09
.09
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continued on next
51
page
.31
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.67
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.06
ETH
.13
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SAF
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52
.05
.05