Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/235397 
Year of Publication: 
2021
Series/Report no.: 
CESifo Working Paper No. 9027
Publisher: 
Center for Economic Studies and Ifo Institute (CESifo), Munich
Abstract: 
This paper re-examines the UIP relation by estimating first a benchmark linear Cointegrated VAR including the nominal exchange rate and the interest rate differential as well as central bank announcements, and then a Cointegrated Smooth Transition VAR (CVSTAR) model incorporating nonlinearities and also taking into account the role of interest rate expectations. The analysis is conducted for five inflation targeting countries (the UK, Canada, Australia, New Zealand and Sweden) and three non-targeters (the US, the Euro-Area and Switzerland) using daily data from January 2000 to December 2020. We find that the nonlinear framework is more appropriate to capture the adjustment towards the UIP equilibrium, since the estimated speed of adjustment is substantially faster and the short-run dynamic linkages are stronger. Further, interest rate expectations play an important role: a fast adjustment only occurs when the market expects the interest rate to increase in the near future, namely central banks are perceived as more credible when sticking to their goal of keeping inflation at a low and stable rate. Also, central bank announcements have a more sizeable short-run effect in the nonlinear model. Finally, UIP holds better in inflation targeting countries, where monetary authorities appear to achieve a higher degree of credibility.
Subjects: 
UIP
exchange rate
nonlinearities
asymmetric adjustment
CVAR (Cointegrated VAR)
CVSTAR (Cointegrated Smooth Transition VAR)
interest rate expectations
interest rate announcements
JEL: 
C32
F31
G15
Document Type: 
Working Paper
Appears in Collections:

Files in This Item:
File
Size





Items in EconStor are protected by copyright, with all rights reserved, unless otherwise indicated.