Does the Nominal Exchange Rate Regime Affect the Real Interest Parity Condition?

Abstract

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Examining real interest parity: Which component reverts quickest and in which regime?

“…The vast majority of prior RIP literature focuses on the post-WWII period. A notable exception is Dreger (2010), who examines different exchange rate regimes including the Gold Standard period. We follow Dreger (2010) by examing the RIP condition in both the post-Bretton Woods era and the Gold Standard period.…”

“…A notable exception is Dreger (2010), who examines different exchange rate regimes including the Gold Standard period. We follow Dreger (2010) by examing the RIP condition in both the post-Bretton Woods era and the Gold Standard period. However, we extend Dreger (2010) by decomposing the RIP condition into its separate components in the spirit of Chung and Crowder (2004).…”

“…We follow Dreger (2010) by examing the RIP condition in both the post-Bretton Woods era and the Gold Standard period. However, we extend Dreger (2010) by decomposing the RIP condition into its separate components in the spirit of Chung and Crowder (2004). We also extend Dreger (2010) and Chung and Crowder (2004), who focus on whether there is convergence by estimating how quickly convergence occurs.…”

“…First, we examine separately different exchange rate regimes: the Gold Standard period and the post-Bretton Woods period where floating exchange rate regimes predominate (following Dreger, 2010 for real interest parity). Second, and most importantly, we test which component is most important in driving convergence towards interest rate parity; to be specific we i) estimate the speed of meanreversion for each component of the real parity relationship and ii) examine the extent to which the nominal interest rate differentials and inflation differentials commove with RIP.…”

Cross-section dependence and the monetary exchange rate model – A panel analysis

“…Thus, we are also able to assess whether the non-stationarity of nominal exchange rates and fundamental factors as well as a long-run relationship between both are mainly driven by international trends or national developments. In this respect we follow Dreger (2010) who applies a similar approach to account for cross-section dependence when analysing the real interest rate parity (RID) condition for different sub-periods.…”