The Sources of Real Exchange Rate Fluctuations in Oil Exporting Countries

Abstract

This paper attempts to identify the sources of real exchange rate fluctuations among 12 oil-exporting countries using quarterly data from 1980-2021. This paper utilizes a method of Structural Vector Autoregression pioneered by Clarida and Gali (1994) which incorporates long-run restrictions first identified by Blanchard and Quah (1989). This model was adapted to include structural oil-price shocks by Bjornland (2004). The paper contributes to the scholarly literature by applying the 4-variable SVAR modeling, impulse response analysis, and forecast error variance decomposition analysis to better understand the sources of real exchange rate fluctuations in oil-exporting countries. The paper will assess whether impulse responses and error variances are consistent with the Mundell-Fleming-Dornbusch model of an open macroeconomy and identify similarities and differences between responses of individual country’s endogenous variables. We find that the endogenous variable’s responses to oil price shocks and nominal shocks are consistent with MFD dynamics and the existing literature, while the responses to supply and demand shocks are not. We also find that the general pattern of demand shocks explaining the majority of the real exchange rate variance remains, although oil price shocks make a distinct contribution in many countries.