Abstract
Do oil shocks matter for exchange rates? This paper identifies three structural shocks that impact on the oil market and analyzes their effect on exchange rates in 43 advanced and emerging countries. It finds that oil-exporting countries tend to experience appreciation pressures after oil shocks, especially oil demand shocks, which are largely offset by foreign exchange reserves accumulation. A main theoretical prediction of most general equilibrium models, namely that shocks leading to increases in oil prices are associated with a real appreciation of oil exporters, is not supported by the paper’s results, as oil producers either peg their exchange rate or accumulate foreign exchange reserves in the wake of these shocks, even when they have floating currencies.
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Notes
As noted by Chen, Rogoff, and Rossi (2010), “commodity prices are a unique exchange rate fundamental for these (commodity exporting) countries because the causality is clear” and even if one finds that the exchange rate Granger-causes fundamentals, this “could simply be the result of endogenous responses or reverse causality,” if the exchange rate is determined as the present value of future fundamentals as in Engel and West (2005).
Differently from the working paper version of this paper we exclude the United States from the estimation in order to avoid potentially confounding effects pertaining to the oil price being denominated and traded in USD on global markets or the status of the U.S. dollar as the world’s preeminent safe-haven currency.
For instance, according to these models, the depreciation of the U.S. dollar during the oil price boom of 2002–08 could be explained by the greater dependence of the United States on oil imports, the smaller and declining share of U.S. industrial exports to oil-producing countries, and a diversification of portfolio assets of oil exporters out of the U.S. dollar.
Indeed, based on the recent estimates of the currency composition of foreign assets and liabilities by Lane and Shambaugh (2010b), the major oil exporters in our sample had a long net foreign currency position in 2004, ranging from around 100 percent of GDP in Norway, to 50 percent in Venezuela and more than 30 percent in Algeria and Russia. The only exception was Nigeria that had a small negative short foreign currency position equivalent to 2 percent of GDP. There are no data for the international investment position of Saudi Arabia, but it is reasonable to assume that this country has a substantial long foreign currency position also.
In our sample, there is a large number of net oil importers that are long in foreign currency, including developed economies such as the United States, Australia, Sweden and Switzerland and Japan, the majority of the other Asian economies, commodity exporters such as Chile and South Africa and emerging markets such as the Czech Republic and Israel.
In the absence of a money market rate we use the central bank monetary policy rate for 10 countries: Cyprus, Egypt, Algeria, Nigeria, Chile, Peru, Venezuela, India, China, and Hungary. For Hong Kong the one-month interbank rate is used.
Since 2015 the SDR also includes the Chinese RMB.
See the discussion in the section “The identification of oil shocks.”
Tang and Xiong (2010) attribute this trend to an “increasing presence of commodity index investors” and detect “evidence suggesting that before early 2000s, commodities markets were partially segmented from outside financial markets and from each other” (p. 15).
UN Comtrade data is only available from 1988 onwards.
For a comprehensive assessment of different criterions including the CRISIS2 criterion by Milesi-Ferretti and Razin (2000) that we use, see Burkart and Coudert (2002).
Series adjusted for SWF data are highly correlated with those excluding SWF. Eventually, the results of the empirical investigation are only marginally affected by this adjustment, so that our conclusions are robust to the exclusion of SWF in foreign exchange reserves.
Note that China is not included in the regional average due to the peculiarity of its exchange rate regime. However, China’s exchange rate change is scaled by the regional average of the Asia region to attain a more balanced weighting scheme.
Data in category 15 “Dual market in which parallel market data is missing” are omitted. We believe that a de facto measure is more reliable than a de jure one, as many emerging countries have “fear of floating.”
The results of the extended VAR are not reported for reasons of space and can be obtained by the authors on request.
The results are not very sensitive to the choice of the order of the moving average for values between 1 and 4.
The oil trade balance and the commodity trade balance are interpolated (cubic spline) from annual data and therefore enter with four lags.
See Pagan (1984) and Wooldridge (2010, p. 630).
This result is driven by floating currencies, as shown below.
This difference is even more pronounced once we restrict the sample to oil exporters. For instance, oil exporters that float their currency have an average value of the Chinn-Ito de jure index of capital account liberalization of almost 0.65, where the index ranges between 0 and 1, with higher values indicating a more open capital account. On the contrary, the average Chinn-Ito score of capital account liberalization of oil exporters that peg their currencies is only 0.45. We thank a referee for this suggestion.
These results hold if we exclude the financial crisis, restricting the sample until mid-2007. The only difference is that—excluding the crisis—also pegs manage to trigger a real depreciation of their currency, which is however more limited than that of floaters. These results are available from the authors on request.
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*Maurizio Michael Habib is Senior Economist at the European Central Bank. Sascha Bützer is Economist at the Deutsche Bundesbank. Livio Stracca is the Head of the International Policy Analysis Division in the Directorate General International and European Relations of the European Central Bank.
