Asymmetric adjustment and nonlinear dynamics in real exchange rates

Abstract

This paper examines whether deviations from PPP are stationary in the presence of nonlinearity, and whether the adjustment towards PPP is symmetric from above and below. Using alternative nonlinear models, our results support mean reversion and asymmetric adjustment dynamics. We find differences in magnitudes, frequencies and durations of the deviations of exchange rates from fixed and time-varying thresholds, both between over-appreciations and over-depreciations and between developed and developing countries. In particular, the average cumulative sum of deviations during periods when exchange rates are below forecasts is twice that during periods of over-appreciation and larger for developing than advanced countries. Copyright © 2005 John Wiley & Sons, Ltd.

The behaviour of the real exchange rate: Evidence from regression quantiles

“…Empirical application of a TAR model (Obstfeld and Taylor, 1997;Chowdhury, 2004, Leon andNajarian, 2005), provides support for the theory of discrete adjustments towards the PPP equilibrium and, thus, o¤ers evidence in favour of the PPP.…”

“…These tests would typically result from regime switching models, where the RER is allowed to display di¤erent behaviour and, therefore, assume di¤erent speeds of adjustment at the di¤erent states. Several models were competing for the choice of the "correct" switching function, based on theoretical considerations about the nature of forces driving the RER behaviour (Leon and Najarian, 2005).…”

Capturing asymmetry in real exchange rate with quantile autoregression

“…The work of Michael, Nobay and Peel (1997), Peel, Sarno and Taylor (2001), Bec, Carrasco and Salem (2004), and Leon and Najarian (2005) indicated that a three regime TAR better describes the stochastic process followed by several RER, corroborating the transaction cost theory. An important difference between the work of Leon and Najarian resides on the fact that they do not impose symmetric thresholds, which they found to be an important restriction.…”

“…This last finding goes in the direction of the results obtained with the use of TAR family of models but it does not necessarily validate the use of symmetric thresholds so commonly employed in previous studies. Our analysis actually gives more support to non symmetric TAR models as implemented by Leon and Najarian (2005).…”

“…Relying on threshold autoregression (TAR) models, Michael, Nobay, and Peel (1997), Obstfeld and Taylor (1997), Bec, Carrasco and Salem (2004), Leon and Najarian (2005) found evidences of asymmetry. According to these works, the RER in period t follows a random walk if it assumes central values in 1 − t , and behaves as a convergent AR process it takes extreme values in 1 − t .…”