Andrew K. Rose

Currency crashes in emerging markets: an empirical treatment

We use a panel of annual data for over 100 developing countries from 1971 through 1992 to characterize currency crashes. We define a currency crash as a large change of the nominal exchange rate that is also a substantial increase in the rate of change of nominal depreciation. We examine the composition of the debt as well as its level, and a variety of other macroeconomic factors, external and foreign. Crashes tend to occur when: output growth is low; the growth of domestic credit is high; and the level of foreign interest rates are high. A low ratio of FDI to debt is consistently associated with a high likelihood of a crash.

One money, one market: the effect of common currencies on trade

A gravity model is used to assess the separate effects of exchange rate volatility and currency unions on international trade. The panel data, bilateral observations for five years during 1970-90 covering 186 countries, includes 300+ observations in which both countries use the same currency. I find a large positive effect of a currency union on international trade, and a small negative effect of exchange rate volatility, even after controlling for a host of features, including the endogenous nature of the exchange rate regime. These effects, statistically significant, imply that two countries sharing the same currency trade three times as much as they would with different currencies. Currency unions like the European EMU may thus lead to a large increase in international trade, with all that that entails.

An Estimate of the Effect of Common Currencies on Trade and Income

Gravity-based cross-sectional evidence indicates that currency unions and currency boards stimulate trade; cross-sectional evidence indicates that trade stimulates income. This paper estimates the effect that common-currency regimes have, via trade, on income per capita. We use economic and geographic data for over 200 countries to quantify the implications of common currencies for trade and income, pursuing a two-stage approach. Our estimates at the first stage suggest that belonging to a currency union more than triples trade with the other members of the zone. Moreover, there is no evidence of trade-diversion. Thus currency unions raise overall trade. Currency boards have similar effects. Our estimates at the second stage suggest that every one percent increase in trade (relative to GDP) raises income per capita by at least one third of a percent over twenty years. We combine the two estimates to quantify the effect of common currencies on output. Our results support the hypothesis that the beneficial effects of such regimes on economic performance come through the promotion of trade, rather than through a commitment to non-inflationary monetary policy, or other macroeconomic influences.

Exchange market mayhem: the antecedents and aftermath of speculative attacks

Exchange market mayhem The antecedents and aftermath of speculative attacks This paper evaluates the causes and consequences of episodes of turbulence in foreign exchange markets. Using data from 1959 through 1993 for twenty OECD countries, we consider the antecedents and aftermath of devaluations and revaluations, flotations, fixings and speculative attacks (which may not be successful). We find that realignments of fixed exchange rates are alike: devaluations are preceded by political instability, budget and current account deficits, and fast growth of money and prices. Revaluations are mirror images of devaluations. Speculative attacks resemble devaluations, but money growth and inflation are more endemic and there is no last-minute attempt to tighten monetary policy. In contrast, few consistent correlations link regime transitions like flotations or fixings to macroeconomic or political variables. Transitions between exchange rate regimes are largely idiosyncratic, and are neither consistently provoked ex ante by systematic imbalances, nor typically justified ex post by subsequent changes in policy. We conclude that there are no clear early warning signals of many speculative attacks, and no easy solutions for policy-makers. — Barry Eichengreen, Andrew K. Rose and Charles Wyplosz

Contagion and trade: why are currency crises regional?

Currency crises tend to be regional; they affect countries in geographic proximity. This suggests that patterns of international trade are important in understanding how currency crises spread, above and beyond any macroeconomic phenomena. We provide empirical support for this hypothesis. Using data for five different currency crises (in 1971, 1973, 1992, 1994 and 1997) we show that currency crises affect clusters of countries tied together by international trade. By way of contrast, macroeconomic and financial influences are not closely associated with the cross-country incidence of speculative attacks. We also show that trade linkages help explain cross-country correlations in exchange market pressure during crisis episodes, even after controlling for macroeconomic factors.

Using the gravity equation to differentiate among alternative theories of trade

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A Panel Project on Purchasing Power Parity: Mean Reversion within and between Countries

Previous time-series studies have shown evidence of mean-reversion in real exchange rates. Deviations from purchasing power parity (PPP) appear to have half-lives of approximately four years. However, the long samples required for statistical significance are unavailable for most currencies, and are potentially inappropriate because of regime changes. In this study, we re-examine deviations from PPP using a panel of 150 countries and 45 annual post WWII observations. Our panel shows strong evidence of mean-reversion that is similar to that from long time-series. PPP deviations are eroded at a rate of approximately 15 percent annually, i.e.,

Does a currency union affect trade? The time-series evidence

Does leaving a currency union reduce international trade? We answer this question using a large annual panel data set covering 217 countries from 1948 through 1997. During this sample a large number of countries left currency unions; they experienced economically and statistically significant declines in bilateral trade, after accounting for other factors. Assuming symmetry, we estimate that a pair of countries that starts to use a common currency experiences a near doubling in bilateral trade.

Fixing Exchange Rates: A Virtual Quest for Fundamentals

Fixed exchange rates are less volatile than floating rates. But the volatility of macroeconomic variables such as money and output does not change very much across exchange rate regimes. This suggests that exchange rate models based only on macroeconomic fundamentals are unlikely to be very successful. It also suggests that there is no clear tradeoff between reduced exchange rate volatility and macroeconomic stability.

Empirical research on nominal exchange rates

Publisher Summary This chapter presents a critical survey and an interpretation of recent exchange rate research. It focuses on empirical results for exchange rates among major industrialized countries. The expectations of future exchange rate changes are a key determinant of asset demands, and therefore of the current exchange rate. The expectations variable is relatively straightforward in the conventional monetary models; in theoretical terms , it is determined by the rational expectations assumption, while in empirical terms, it is typically measured by the forward discount or interest differential. The standard empirical implementation of rational expectations methodology infers ex ante expectations of investors from ex post changes in the exchange rate. Unexpected changes in monetary policy frequently cause movements in the exchange rate in the direction hypothesized by the sticky-price monetary model. The chapter presents a survey of the work on exchange rate determination in floating rate regimes. It considers evidence across exchange rate regimes and examines the issue of speculative bubbles. It also reviews some relatively new directions in exchange rate research that focus on the micro-structure of foreign exchange markets.