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First, there have been large swings in all G7 currencies in the last five years and in these circumstances, the markets and policymakers need some idea of sustainable levels for their currencies. The second development is the prospect of a European Monetary Union (EMU). Countries that enter the EMU must do so ...
First, there have been large swings in all G7 currencies in the last five years and in these circumstances, the markets and policymakers need some idea of sustainable levels for their currencies. The second development is the prospect of a European Monetary Union (EMU). Countries that enter the EMU must do so at exchange rates that are close to equilibrium levels; if they do not, they will eventually have to undertake costly deflation or inflation to bring their real exchange rate to its underlying level.
Third, the EMU will be the most important event in the evolution of the international monetary system for some time. Hence the exchange rate between the euro and the dollar will be of considerable significance. This study provides the first estimate of the FEER for the Euro, in the hope of promoting a more stable global environment when it is introduced.
The authors estimate equilibrium real exchange rates using a partial-equilibrium model based on econometric trade equations, assumptions of trend output, and estimates of the medium-run current account. They emphasize that the FEER is a medium-run construct and show why it is superior to the purchasing price parity (PPP) method. The authors discuss the links between the FEER and fiscal policy and the extent to which the FEER is a normative concept and conclude with sensitivity analysis for changes in current account and trend GDP assumptions.
|1||What are Equilibrium Real Exchange Rates?||3|
|The Medium Term||4|
|Purchasing Power Parity||9|
|2||Why Calculate FEERs?||15|
|The FEER and Fiscal Policy||15|
|Is the FEER a Normative Concept?||17|
|The FEER as a Forecast||19|
|FEERS and Exchange Rate Regimes||21|
|3||How to Calculate FEERs||23|
|The Costs of Simplification||25|
|Modeling Aggregate Trade||28|
|Limitations of the Demand-Curve Trade-Volume Specification||29|
|Modeling Debt Interest Flows||32|
|4||Estimating Trade Elasticities||35|
|Estimates of Trade Volume Elasticities||40|
|Assumptions About Trend Output||49|
|Trend Current Account for 1995:H1||55|
|FEERs in 1995:H1||58|
|FEERs in 2000||63|
|FEERs and Current Parities||65|
|Implications for the Euro/US Dollar Rate||67|
|Appendix A||Current Account Targets||75|
|References for Appendix A||117|
|Appendix B||Modeling the Impact of the Real Exchange Rate||119|
|Appendix C||Estimation Details||127|
|Appendix D||Data and Data Sources||159|