Equilibrium Real Exchange Rates in Central Europe's Transition Economies: Knocking on Heaven's Door

32 Pages Posted: 4 Sep 2002

See all articles by Balázs Égert

Balázs Égert

Organization for Economic Co-Operation and Development (OECD); CESifo (Center for Economic Studies and Ifo Institute); Université Paris X Nanterre - Department of Economics; William Davidson Institute

Date Written: July 2002

Abstract

The purpose of this paper is to study the equilibrium real exchange rate (ERER) in 5 CEE transition economies, namely the Czech Republic, Hungary, Poland, Slovakia and Slovenia. In so doing, we combine the fundamental equilibrium exchange rate (FEER) approach developed by Williamson (1994) with the behavioural equilibrium exchange rate (BEER) approach advocated by Clark and MacDonald (1998). Our analysis is based on the theoretical model proposed by Montiel (1999) which defines internal balance in terms of the relative price of nontradables and determines external balance in terms of net foreign assets. The empirical part of the paper consists in estimating a VAR-based 3-equation cointegration system. Long-term equilibrium values for relative prices are determined by using relative productivity and private consumption, while the current account, representing external balance, is linked to terms of trade and openness ([X+M]/GDP). In order to derive the ERER and then to compute total misalignment, we finally substitute the long-run values for external and internal balances in the simultaneously estimated cointegration relationship connecting the RER with relative prices and the current account. Results show that the gap between observed real exchange rate developments and the path of the equilibrium real exchange rate differs substantially among the 5 transition countries.

Keywords: Transition, Central and Eastern Europe, Real Exchange Rate, Cointegration

JEL Classification: E31, F31, O11, P17

Suggested Citation

Egert, Balazs, Equilibrium Real Exchange Rates in Central Europe's Transition Economies: Knocking on Heaven's Door (July 2002). Available at SSRN: https://ssrn.com/abstract=319969 or http://dx.doi.org/10.2139/ssrn.319969

Balazs Egert (Contact Author)

Organization for Economic Co-Operation and Development (OECD) ( email )

2 rue Andre Pascal
Paris Cedex 16, 75775
France

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

Université Paris X Nanterre - Department of Economics

Nanterre Cedex, 92001
France

William Davidson Institute

724 E. University Ave.
Wyly Hall
Ann Arbor, MI 48109-1234
United States

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