Testing for explosive bubbles in the South African-US exchange rate using the sequential ADF procedures

Abstract

This paper tests for the existence of speculative bubbles in the South African-US exchange rate using the sequential ADF procedures. In particular, the paper uses the SADF and GSADF right-tailed unit root tests to explore the existence of explosive bubbles in the South African-US exchange rate for the time period running from January1980 through July 2012. The results provide evidence in support of the existence of explosive bubbles in the nominal rand-dollar exchange rate, the real exchange rate of traded and non-traded goods. The explosive behavior exhibited by the South African rand-US dollar exchange rate can be interpreted as evidence of rational bubbles given that this behavior is driven by the fundamentals including relative prices of traded and non-traded goods.Keywords: exchange rates, rational bubbles, sequential unit root test, traded goods, non-traded goods. JEL Classification: F31, C12, C15, C22. Received on: 23 th of January, 2017. Accepted on: 15 th of February, 2017. Introduction The subject of rational bubbles continues to attract the attention of investors and policy makers alike. Early detection of speculative bubbles is important to investors, as it enables them to rebalance their portfolios in anticipation of the impending crash. For policy makers, a clear understanding of the existence and size of rational bubbles is crucial in order for them to formulate and implement appropriate strategies to mitigate speculative bubbles in the foreign exchange markets. According to Kindelberger and Aliber (2005) bubble is a sharp increase in asset prices whereby the initial increase generates expectations of further increases and, hence, attracting new buyers.Economic theory has always postulated that exchange rates play crucial roles in determining international trade and, hence, economic growth. In their study, Edwards and Yeyati (2016) show that under flexible exchange rates, economies grow more rapidly than under fixed rates. In addition, they show that countries with rigid exchange rates experience more exacerbated effects from terms of trade. However, some studies have pointed out that since the introduction of flexible exchange rates, many national economies and markets have experienced increased volatility. Finance theory posits that there is a nexus between exchange rates, inflation and interest rate differentials, which contribute to the direction of capital and asset flows between countries, and, thus, determine asset prices. Therefore, This is an Open Access article, distributed under the terms of the Creative Commons Attribution-NonCommercial 4.0 International license, which permits re-use, distribution, and reproduction, provided the materials aren't used for commercial purposes and the original work is properly cited.

Identification of Multiple Bubbles in Turkish Financial Markets: Evidence From Gsadf Approach

“…The authors present evidence of two bubbles; the first bubble emerged during [2005][2006] and the second one appeared during the global financial crisis. The same results were obtained by Elike and Anoruo (2017), who provide significant evidence of explosive bubbles in the nominal USDZAR rate, the real exchange rate of traded and non-traded goods. Korkmaz et al (2016) revealed significant evidence in favor of the bubble existence in stock index returns of Bist100, gold, and USDTRY foreign exchange rates, whereas the result was insignificant for the deposit interest rates and EURTRY exchange rates in Turkey.…”

“…The results have significant implications for policymakers in attaining price and financial stability and investors for risk and portfolio management as well as arbitrage opportunities, as the existence of a bubble in a market could create disruptive effects on an economy through redistribution of wealth (Jahan-Parvar and Waters, 2010; Elike and Anoruo, 2017). Given that GSADF tests could be used as a real-time bubble detector (Homm and Breitung, 2012), implementation of this approach and the time-varying causality tests by policymakers could provide important benefits in terms of assessing and measuring risks driven by exogenous or/and endogenous shocks, and taking preemptive measures in the markets.…”

Tra1 Bölgesi̇ Konut Pi̇yasasinda Fi̇yat Oluşumu Balon Mu?

“…Birden çok yineleme ile hesaplanan sağ kuyruk ADF testlerinde her alt örneklem ilk gözlem değeri ile başlarken son gözlem değerinin değişmesine izin verilir. Temsili örnek pencere ile gösterilmekte ve küçük örneklemden tüm örnekleme kadar test edilmesine imkân sağlanmaktadır (Elike ve Anoruo, 2017).…”