Calculating the Fundamental Equilibrium Exchange Rate of the Macedonian Denar

Jovanovic, Branimir (2007): Calculating the Fundamental Equilibrium Exchange Rate of the Macedonian Denar.

Abstract

The real exchange rate is a macroeconomic variable of a crucial importance, since it determines relative price of goods and services home and abroad, and influences economic agents’ decisions. The real exchange rate needs to be on the right level, as it can result in wrong signals and economic distortions if it is not. In order to be able to say whether a currency is misaligned or not, one needs some measure of the just exchange rate – the equilibrium exchange rate.

Many different concepts of equilibrium exchange rates exist. The one which is defined as the real effective exchange rate that is consistent with the economy being in internal and external equilibrium in the medium term is the subject of this thesis, and is known under the name of Fundamental Equilibrium Exchange Rate concept. The first part of this study, thus, explains the concept of Fundamental Equilibrium Exchange Rate and surveys the literature on the uses to which it has been put and on the ways in which it has been calculated. The second part of the dissertation illustrates how the Fundamental Equilibrium Exchange Rate concept can be operationalised towards the end of assessing the right parity of the Macedonian denar.

What we find is that the denar is neither overvalued nor overvalued in the period 1998-2005. That would imply that price competitiveness is not adversely affected, and that the exchange rate does not generate distortions in the economy. We also find that the fundamental equilibrium exchange rate tends to appreciate due to the increase in the net current transfers flows. In contrast, the real effective exchange rate tends to depreciate in the last three periods, and we are of the opinion that if these trends are maintained, in near future the denar might become undervalued.

• Item Type: MPRA Paper
• Language: English
• Keywords: exchange rate; econometric modelling
• Subjects: F - International Economics > F0 - General; F - International Economics > F3 - International Finance > F32 - Current Account Adjustment ; Short-Term Capital Movements; F - International Economics > F3 - International Finance > F31 - Foreign Exchange

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