Real Exchange Rates, Current Accounts and Competitiveness Issues in the Euro Area

Mirdala, Rajmund (2015): Real Exchange Rates, Current Accounts and Competitiveness Issues in the Euro Area. Published in: Journal of Applied Economic Sciences , Vol. 10, No. 7 (December 2015): pp. 1096-1128.

Abstract

The lack of nominal exchange rate flexibility in the monetary union induced the growing divergence of trade performance among the member countries. Intra-Eurozone current account imbalances among countries with different income levels per capita fuel discussions on competitiveness channels under common currency. Asynchronous current account trends between North and South of the Euro Area were accompanied by significant appreciations of real exchange rate in the periphery economies originating in the strong shifts in consumer prices and unit labor costs in these countries relative to the countries of the Euro Area core. The issue is whether the real exchange rate is a significant driver of persisting current account imbalances in the Euro Area considering than, according to some authors, differences in domestic demand are more important than is often realized. In the paper we analyze main aspects of current account adjustments in the Euro Area member countries. From estimated VAR model we calculate impulse-response function of the current account to the real exchange rate (REER calculated on CPI and ULC base) and domestic demand shocks and variance decomposition to examine the relative importance of both shocks. Our results indicate that while the prices and costs related determinants of external competitiveness affected imports more significantly than exports, demand drivers shaped current account balances mainly during the crisis period.

• Item Type: MPRA Paper
• Language: English
• Keywords: current account, real exchange rate, economic crisis, vector autoregression, impulse-response function, variance decomposition
• Subjects: C - Mathematical and Quantitative Methods > C3 - Multiple or Simultaneous Equation Models ; Multiple Variables > C32 - Time-Series Models ; Dynamic Quantile Regressions ; Dynamic Treatment Effect Models ; Diffusion Processes ; State Space Models; F - International Economics > F3 - International Finance > F32 - Current Account Adjustment ; Short-Term Capital Movements; F - International Economics > F4 - Macroeconomic Aspects of International Trade and Finance > F41 - Open Economy Macroeconomics

References

ARGHYROU, M.G., CHORTAREAS, G. (2008) Current Account Imbalances and Real Exchange Rates in the Euro Area, Review of International Economics, 9(5): 747-764

ARMINGEON, K., BACCARO, L. (2012) Political Economy of the Sovereign Debt Crisis, Industrial Law Journal, 41(3): 254-275

BAYOUMI, T., HARMSEN, R., TURUNEN, J. (2011) Euro Area Export Performance and Competitiveness, [IMF Working Paper, No. 140/2011], Washington D.C., International Monetary Fund, 16 p.

BELKE, A., DREGER, CH. (2011) Current Account Imbalances in the Euro Area: Catching up or Competitiveness?, [DIW Discussion Papers, No. 1106/2011], Berlin, German Institute for Economic Research, 21 p.

BERGER, H., NITSCH, V. (2010) The Euro’s Effect on Trade Imbalances, [IMF Working Paper, No. 226/2010], Washington D.C., International Monetary Fund, 30 p.

BERGER, H., NITSCH, V. (2012) Bilateral Imbalances in Europe, [Darmstadt Discussion Papers in Economics, No. 214/2012], Darmstadt, Darmstadt University of Technology, 21 p.

BUSSIERE, M., FRATZSCHER, M., MULLER, G.J. (2004) Current Account Dynamics in OECD and EU - An Intertemporal Approach, [European Central Bank, Working Paper, No. 311/2004] Frankfurt, European Central Bank, 38 p.

CALVO, G., REINHART, C. (2002) Fear of Floating, Quarterly Journal of Economics, 117(2): 379-408

CHEN, R., MILESI-FERRETTI, G.M., TRESSEL, T. (2012) External Imbalances in the Euro Area, [IMF Working Paper, No. 236/2012], Washington D.C., International Monetary Fund, 50 p.

CHINN, M. (2005) A Primer on Real Effective Exchange Rates: Determinants, Overvaluation, Trade Flows and Competitive Devaluations, [NBER Working Paper, no. 11521], Cambridge, National Bureau of Economic Research, 39 p.

COMUNALE, M., HESSEL, J. (2014) Current Account Imbalances in the Euro Area: Competitiveness or Financial Cycle?, [DNB Working Paper, No. 443/2014], Amsterdam, De Nederlandsche Bank, 46 p.

GAULIER, G., VICARD, V. (2012) Current Account Imbalances in the Euro Area: Competitiveness or Demand Shock?, [BDF Quarterly Selection of Articles, No. 27/2012], Paris, Banque de France, 26 p.

GRUBER, J.W., KAMIN, S. (2005) Explaining the Global Pattern of Current Account Imbalances, Board of Governors of the Federal Reserve System, [Board of Governors FRS, International Finance Discussion Papers No. 846/2005], Washington D.C., Federal Reserve System, 44 p.

HOBZA, A., ZEUGNER, S. (2014) The ‘Imbalanced Balance’ and Its Unravelling: Current Accounts and Bilateral Financial Flows in the Euro Area, [EC Economic Papers, No. 520/2014], Brussels, European Commission, 25 p.

HOLINSKI, N., KOOL, C.J.M., MUYSKEN, J. (2012) Persistent Macroeconomic Imbalances in the Euro Area: Causes and Consequences, Federal Reserve Bank of St. Louis Review, 94(1): 20 p.

KANG, J.S., SHAMBAUGH, J.C. (2013) The Evolution of Current Account Deficits in the Euro Area Periphery and the Baltics: Many Paths to the Same Endpoint, [IMF Working Paper, No. 169/2013], Washington D.C., International Monetary Fund, 22 p.

LANE, P., MILESI-FERRETTI, G.M. (2002) External Wealth, the Trade Balance, and the Real Exchange Rate, European Economic Review, 46(6): 1049–1071

LEE, J., CHINN, M.D. (2006) Current Account and Real Exchange Rate Dynamics in the G7 Countries, Journal of International Money and Finance, 25(2006): 257-274

MENDOZA, E.G. (1995) The Terms of Trade, the Real Exchange Rate, and Economic Fluctuations, International Economic Review, 36(1): 101-137

MIRDALA, R. (2013a) Current Account Adjustments and Real Exchange Rates in the European Transition Economies, Journal of Applied Economic Sciences, 8(2): 210-227

MIRDALA, R. (2013b) Fiscal Imbalances and Current Account Adjustments in the European Transition Economies, Journal of Applied Economic Sciences, 8(3): 323-352

OBSTFELD, M., ROGOFF, K.S. (2005) Global Current Account Imbalances and Exchange Rate Adjustments, Brookings Papers on Economic Activity, 36(1): 67-123.

RUSEK, A. (2013) The Competitiveness Dynamics in the Eurozone, Global Journal of Management and Business Research Finance, 13(5): 33-38.

SANCHEZ, J.L.D., VAROUDAKIS, A. (2013) Growth and Competitiveness as Factors of Eurozone External Imbalances. Evidence and Policy Implications, [WB Policy Research Working Paper, No. 6732/2013], Washington D.C., World Bank, 50 p.

SEK, S.K., CHUAH, C.L. (2013) The Dynamic of the Current Account in Emerging East-Asian: Does Exchange Rate Matter? International Journal of Trade, Economics and Finance, 2(4): 293-299

STAVÁREK, D. (2011) European exchange rates volatility and its asymmetrical components during the financial crisis, [Mendelu Working Papers in Business and Economics, No. 17/2011], Brno, Mendel University in Brno, 28 p.