Department of Economics and Business Economics

What do we know about real exchange rate non-linearities?

Research output: Working paperResearch

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  • Rp09 50

    Final published version, 769 KB, PDF document

  • Robinson Kruse
  • Michael Frömmel, Ghent University, Belgium
  • Lukas Menkhoff, Leibniz University Hannover, Germany
  • Philipp Sibbertsen, Leibniz University Hannover, Germany
  • School of Economics and Management
This research points to the serious problem of potentially misspecified alternative
hypotheses when testing for unit roots in real exchange rates. We apply a popular
unit root test against nonlinear ESTAR and develop a Markov Switching unit root
test. The empirical power of these tests against correctly and misspecified non-linear
alternatives is analyzed by means of a Monte Carlo study. The chosen parametrization
is obtained by real-life exchange rates. The test against ESTAR has low power
against all alternatives whereas the proposed unit root test against a Markov Switching
autoregressive model performs clearly better. An empirical application of these
tests suggests that real exchange rates may indeed be explained by Markov-Switching
dynamics.
Original languageEnglish
Place of publicationAarhus
PublisherInstitut for Økonomi, Aarhus Universitet
Number of pages25
Publication statusPublished - 2009

    Research areas

  • real exchange rates, unit root test, ESTAR, Markov Switching, PPP

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