Exchange market pressure in Australia.

Introduction

Since the collapse of the Bretton Woods system in the early 1970s, most industrialized economies have moved toward a managed floating exchange rate regime--allowing some exchange rate flexibility, but often intervening in the foreign exchange market to influence the path

of the exchange rate. Recent studies have argued that under a managed floating regime, monetary authorities should focus on the pressure on the exchange rate rather than on changes in exchange rates and foreign exchange reserves alone (Tanner, 2001). This has led to the development of a large number of different measures of the magnitude of exchange market pressure (EMP), some based on structural models of the economy (e.g., Weymark, 1995, 1997, 1998; and Spolander, 1999) and some model-independent (e.g., Eichengreen, Rose, and Wyplosz, 1996; and Pentecost, Van-Hooydonk, and Van-Poeck, 2001).

Many of the measures of EMP based on structural models have been generated using a methodology proposed in Weymark (1995, 1998) that stands independently of the structural model employed. This paper provides an application of Weymark's methodology to the Australian case since the float of the Australian dollar using the small open-economy model outlined in Spolander (1999). It also provides an application of the model-independent approach developed by Eiehengreen et al. (1996). The resulting EMP indices are then examined to determine if they provide plausible descriptions of the pressure on the Australian dollar during the post-float period. As such, this paper contributes to the EMP literature by examining how well two existing methodologies perform when applied to another situation. The role of foreign exchange intervention by the Reserve Bank of Australia (RBA) is then evaluated by calculating degree of intervention (DI) indices, as described in Weymark (1995, 1998).

Background

The term exchange market pressure has been widely used in the intervention literature to describe movements in two key external sector variables: holdings of international reserves and the nominal exchange rate. One of the earliest studies to examine EMP by Girton and Roper (GR) (1977) used a monetary model to explain exchange rate movements and defined EMP as the "volume of intervention that is required to achieve any desired exchange rate." Since the development of the Girton and Roper model, many researchers have applied the model to a number of both developed and developing countries. (1) Modified versions of the Girton and Roper model also have been applied to various countries. For example, Wohar and Lee (1992) applied a less restrictive version of the Girton and Roper model allowing for deviations from purchasing power parity (PPP) and incorporating foreign disturbances, to the Japanese case. Their results indicated that the less restrictive model performed better. This finding more recently has been supported by Pollard (1999) for Barbados, Guyana, Jamaica, and Trinidad and Tobago. Mah (1998) also highlighted the importance of incorporating dynamic specifications of some of the independent variables in the Girton and Roper model.

Roper and Turnovsky (1980) and Turnovsky (1985) introduced the idea of using a small open-economy model in constructing an EMP formula. In a seminal contribution, Weymark (1995, 1998) provided a general methodology for calculating EMP that was model independent, under which the approaches of Girton and Roper (1977) and Roper and Turnovsky (1980) could be viewed as special cases. Weymark also proposed a model-independent definition of EMP as:

   The exchange rate change that would have been required to remove
   the excess demand for the currency in the absence of exchange
   market intervention, given the expectations generated by the
   exchange rate policy actually implemented.

Weymark (1995, 1997) has applied her methodology to various simple open-economy models and used summary statistics from actual changes in the exchange rate and foreign exchange reserves held by the central bank to calculate measures of EMP. Spolander (1999) extended the simple model in Weymark (1995) to incorporate a monetary policy reaction function and the sterilization of foreign exchange intervention, thereby constructing a more realistic model of the economy.

Eichengreen et al. (1996) argued that dependency on a particular model was an undesirable feature for an EMP index. As an alternative, they proposed a measure of speculative pressure that is a linear combination of a relevant interest rate differential, the percentage change in the bilateral exchange rate and the percentage change in foreign exchange reserves. The weighting allocated to each of the three components is chosen in order to equalize their conditional volatilities. In a similar paper, Pentecost, Van-Hooydonk, and Van-Poeck, (2001) determined the weights using principle components analysis. The EMP indices resulting from these approaches are model independent 'because neither the components of the index nor the weighting scheme is derived from a structural model of the economy' (Weymark, 1998).

Measures of Exchange Market Pressure

For log-linear, small open-economy models Weymark (1995, 1998) gave the following formula for calculating EMP:

EM[P.sup.MD.sub.t] = [DELTA][e.sub.t] + [[eta].sup.MD] [DELTA][r.sub.t] (1)

where [DELTA][e.sub.t] is the percentage change in the domestic currency cost of one unit of the foreign currency, [DELTA][r.sub.t] is the change in official foreign exchange reserves as a percentage of the one period lagged value of the money base and [[eta].sup.MD] = -[differential] [DELTA][e.sub.t]/[differential] [DELTA][r.sub.t] which has to be estimated from a structural model of the economy. The MD superscript refers to the fact that, as [eta] is model-dependent, so too is the measure of EMP. Importantly, this formula is derived under the assumption that the central bank does not use domestic credit changes to influence the exchange rate. Weymark (1997) shows how to relax this assumption, but the estimation procedure becomes much more complex.

The small open-economy model used by Spolander (1999) is summarized in equations (2) to (8).

[DELTA][m.sup.d.sub.t] = [[beta].sub.0] + [DELTA][p.sub.t] + [[beta].sub.1] [DELTA][c.sub.t] - [[beta].sub.2][DELTA][i.sub.t] (2)

[DELTA][p.sub.t] = [[alpha].sub.0] + [[alpha].sub.1][DELTA][p.sup.*.sub.t] + [[alpha].sub.2][DELTA][e.sub.t] (3)

[DELTA][i.sub.t] = [DELTA][i.sup.*.sub.t] + [E.sub.t] ([DELTA][e.sub.t+1]) - [DELTA][e.sub.t] (4)

[DELTA][m.sup.5.sub.t] = [DELTA][d.sup.a.sub.t] + (1 - [lambda])[DELTA][r.sub.t] (5)

[DELTA][r.sub.t] = -[[bar.p].sub.t][DELTA][e.sub.t] (6)

[DELTA][d.sup.a.sub.t] = [[gamma].sub.0] + [DELTA][y.sup.trend.sub.t] + (1 - [[gamma].sub.1])[DELTA][p.sub.t] - [[gamma].sub.2][y.sup.gap.sub.t] (7)

[DELTA][m.sup.d.sub.t] = [DELTA][m.sup.5.sub.t] (8)

Notationally, [m.sub.t] is the natural logarithm of the stock of money (with superscripts d and s denoting demand and supply, respectively), [p.sub.t] is the natural logarithm of the domestic price level, [c.sub.t] is the natural logarithm of real domestic income, [i.sub.t] is the domestic short term interest rate, [p.sup.*.sub.t] is the natural logarithm of the foreign price level, [e.sub.t] is the natural logarithm of the exchange rate expressed as units of domestic currency per unit of foreign currency, [i.sup.*.sub.t] is the foreign short term interest rate, [d.sup.a.sub.t] is autonomous domestic lending by the central bank divided by the one period lagged value of the money base ([B.sub.t-1]), [r.sub.t] is the stock of foreign exchange reserves divided by the one period lagged value of the money base ([B.sub.t-1]), [y.sup.trend.sub.t] is the long-run trend component of real domestic output ([y.sub.t]), and [y.sup.gap.sub.t] is the difference between [y.sub.t] and [y.sup.trend.sub.t].

In this model, it is assumed that agents form expectations rationally and also that a constant proportion ([lambda]) of intervention is sterilized. Furthermore, under this model, the sterilized portion of intervention is ineffective. As empirical evidence [see Edison (1993) for a survey] is still mixed with regards to the efficacy of sterilized intervention, this is not an unreasonable assumption. Uncovered interest parity is assumed to hold, which rules out the existence of a portfolio balance effect, while future expectations about the exchange rate are held constant when imputing EMP, which eliminates the possibility of a signaling effect.

Equation (2) describes changes in money demand as a positive function of domestic inflation and changes in real domestic income and a negative function of changes in the domestic interest rate. Equation (3) describes the purchasing power parity condition where exchange rate changes and foreign inflation determine domestic inflation. Equation (4) describes uncovered interest rate parity. Equation (5) explains changes in the money supply as a positive function of autonomous changes in domestic lending and unsterilized changes in the stock of foreign exchange reserves. Equation (6) states that changes in foreign exchange reserves are a function of the exchange rate and a time-varying response coefficient, [[bar.p].sub.t]. Equation (7) describes the evolution of the central bank's domestic lending. It suggests that changes in domestic lending are a positive function of domestic inflation and changes in trend real output, and a negative function of the gap between real output and its trend. Equation (8) is a money market clearing condition that states that money demand is continuously equal to money supply.

By substituting equations (3) and (4) into equation (2) and substituting equation (7) into equation (5) and then using the money market clearing condition in equation (8) to set the resulting two equations equal to one another, it is possible to obtain the following relation:

[DELTA][e.sub.t] = [X.sub.t] + [[beta].sub.2]E([DELTA][e.sub.t+1]) + (1 - [lambda]) [DELTA][r.sub.t]]/[[gamma].sub.1][[alpha].sub.2] + [[beta].sub.2] (9)

where

[MATHEMATICAL EXPRESSION NOT REPRODUCIBLE IN ASCII.] (10)

and the elasticity needed to calculate EMP in equation (1) can be found as

[[eta].sup.MD] = -[differential][DELTA][e.sub.t]/[differential][DELTA][r.sub.t] = - (1 - [lambda])/[[[gamma].sub.1][[alpha].sub.2] + [[beta].sub.2]] (11)

In deriving equation (11) it is assumed that all of the variables in [X.sub.t] are exogenous. Also, following Weymark (1995) and Spolander (1999) the expected exchange rate change is held constant while imputing EMP.

As an alternative to the above model-dependent approach, Eichengreen et al (1996) proposed the following model-independent measure of EMP:

EM[P.sup.ERW.sub.t] = [DELTA][e.sub.t] + [[eta].sup.ERW.sub.1] [DELTA][r.sub.t] + [[eta].sup.ERW.sub.2] [DELTA][i.sub.t] (12)

where

[[eta].sup.ERW.sub.1] = -[square root of var([DELTA][e.sub.t])/var [DELTA]([r.sub.t])], [[eta].sup.ERW.sub.2] = [square root of var([DELTA][e.sub.t])/var [DELTA]([i.sub.t])],

and use has been made of the small open economy assumption that the larger foreign country does not change its interest rate or reserves to offset EMP on the bilateral exchange rate. It is also assumed that the policy authority relieves EMP through both reserve changes and interest rate changes. In the derivation of the model-dependent measure, it was assumed that the central bank did not alter domestic credit in order to affect the exchange rate. Accordingly, as changes in domestic credit drive changes in the domestic interest rate, the model-independent measure of EMP used in this paper does not include the change in the domestic interest rate:

EM[P.sup.MI.sub.t] = [DELTA][e.sub.t] + [[eta].sup.MI][DELTA][r.sub.t] (13)

[[eta].sup.MI.sub.1] = - [square root of var([DELTA][e.sub.t])/var [DELTA]([r.sub.t])] (14)

The EMP formulas given for the model-dependent and model-independent approaches in equations (1) and (13), respectively, are essentially identical. The difference between the two methods is the way in which [eta] is calculated, as specified in equations (11) and (14). The EMP indices calculated from these formulas represent changes in the exchange rate that would have occurred if the RBA had unexpectedly refrained from intervening in the foreign exchange market. Negative values indicate pressure for the Australian dollar to appreciate during that period, while positive values indicate pressure for the Australian dollar to depreciate.

Weymark (1995, 1998) proposed a degree of intervention (DI) index that measures the proportion of EMP relieved by intervention. For both the model-dependent and model-independent approaches, the DI index is calculated as

D[I.sub.t] = [[eta][DELTA][r.sub.t]]/EM[P.sub.t] (15)

When DI = 1, the central bank intervenes to keep the exchange rate fixed, and when DI = 0, the central bank does not intervene, thus allowing the exchange rate to float freely. Negative values of DI indicate that intervention magnifies changes in the exchange rate. That is, when the exchange rate is under pressure to depreciate, intervention magnifies the depreciation. Values of DI between 0 and 1 indicate that intervention has acted to reduce the pressure on the exchange rate. When DI > 1, intervention reverses the exchange rate movement. That is, the exchange rate is induced to move in the opposite direction to the movement that would have occurred in the absence of foreign exchange intervention. Due to the discontinuity of the specification of equations used in defining the degree of intervention, DI can take extremely large absolute values. (2) Hence, extremely large values of DI will be replaced by 2 when DI > 2 and -1 when DI < -1.

Data Description

Quarterly measures of the data series were obtained for the period from 1984:1 to 2003:4. See Appendix A for a detailed description of the data series and their sources. Time series properties of each of the data series are reported in Appendix B. Unit root tests indicate that almost all of the variables are first difference stationary. The one exception is also found to be first difference stationary if the number of lags in the augmented Dickey-Fuller test is increased. The first difference stationarity of the variables is what prompted Spolander (1999) to specify equations (2) and (3) in first differences.

The model is estimated for the bilateral Australian dollar against the U.S. dollar exchange rate ([e.sub.t]). The Australian 90-day bank-accepted bill rate is used as the domestic interest rate ([i.sub.t]) and the 3-month U.S. certificate of deposits rate represents the foreign interest rate ([i.sup.*.sub.t]). The M1 monetary aggregate is used as the domestic money stock ([m.sub.t]). The Australian and U.S. consumer price indices proxy for the domestic price level ([p.sub.t]) and the foreign price level ([p.sup.*.sub.t]), respectively. Australian and U.S. real gross domestic product represent the domestic level of output ([y.sub.t]) and the foreign level of output ([y.sup.*.sub.t]), respectively. Australian real gross national income is used as the domestic national income ([c.sub.t]). The Australian money base ([B.sub.t]) and a measure of net spot foreign exchange transactions ([DELTA][R.sub.t]) are also used in estimation. The measure of foreign exchange transactions includes transactions between the RBA and market participants as well as transactions between the RBA and the Australian government.

Empirical Analysis and Results

It is clear from equation (11) that in order to calculate EMP using the model-dependent formula it is necessary to obtain estimates of four parameters in the model: [lambda], [[gamma].sub.1], [[alpha].sub.2], and [[beta].sub.2]. The parameter estimates are obtained by estimating the following three equations:

[DELTA][m.sub.t] - [DELTA][p.sub.t] = [[beta].sub.0] + [[beta].sub.1][DELTA][c.sub.t] + [[beta].sub.2][DELTA][i.sub.t] + [[epsilon].sub.1,t] (16)

[DELTA][p.sub.t] = [[alpha].sub.0] + [[alpha].sub.1][DELTA][p.sup.*.sub.t] + [[alpha].sub.2][DELTA][e.sub.t] + [[epsilon].sub.2,t] (17)

[MATHEMATICAL EXPRESSION NOT REPRODUCIBLE IN ASCII.] (18)

Equations (16) and (17) are obtained directly from equations (2) and (3). Equation (18) is obtained by substituting equation (7) into equation (5) and by noting that

[[DELTA][B.sub.t]]/[B.sub.t-1]

represents the change in the money supply scaled by the one period lagged value of the money supply under the assumption of a constant money multiplier. From the equations used to derive equations (16), (17), and (18), it can be observed that [[beta].sub.1], [[alpha].sub.1], and [[alpha].sub.2] should be positive and that [[beta].sub.2], [[gamma].sub.1], [[gamma].sub.2], and [lambda] should be negative. Furthermore, as [lambda] is a fraction, its absolute value should be between zero and one.

As the equations have endogenous variables on the right side, they were estimated using a two-stage least squares approach. Instrumental variables for the two-stage regressions were chosen by considering all of the exogenous variables and the one period lag of all of the endogenous and exogenous variables as possible instruments, and selecting significant variables from initial regressions of each endogenous variable on the possible instruments. Two-stage least squares was used in preference to three-stage least squares or full information maximum likelihood estimation due to its greater robustness in the presence of misspecification and the relatively small sample size.

The two-stage least squares estimation results are provided in Table 1. All of the parameters are correctly signed and most are significant. Some of the parameters in equation (18) are statistically insignificant. This is in line with Spolander's findings, and he attributed the problem to misspecification of the relationship governing the evolution of domestic lending. The [[alpha].sub.2] parameter in equation (17) is also statistically insignificant.

Diagnostic tests for each equation are also included in Table 1. The tests suggest that the residuals from equation (17) are autocorrelated; therefore, the standard errors for this equation are corrected using the Newey-West procedure. Furthermore, the residuals from all three equations are non-normally distributed. This means that the t-tests of statistical significance in Tables 1 may be misleading. This does not reduce the validity of the parameter estimates.

The two EMP indices are presented in the first two columns of Appendix C, while the two DI indices constructed from the EMP indices are presented in the last two columns. A talk by Ian Macfarlane (who was then Deputy Governor of the RBA) that was published in the RBA Bulletin in 1993 gives some insight into a number of intervention episodes in the period of 1985-1991. This provides some basis against which to compare the estimated indices. The two EMP indices are reasonably plausible and follow a fairly similar pattern, although the model-dependent measure displays more volatility.

Both EMP indices suggest that between 1984:1 and 1986:3 the Australian dollar was generally under pressure to depreciate. The DI indices indicate that at least at the beginning of this period the RBA seemed content to let the Australian dollar depreciate, as significant depreciation pressure in 1984:2, 1985:1, and 1985:2 was offset by intervention only to a small degree. Depreciation pressure in 1984:3 was slightly exacerbated by intervention. By mid 1986 the Australian dollar was down to around the U.S.$0.60/A$ mark. Macfarlane (1993) suggests that at this point the RBA started to feel that the Australian dollar was becoming undervalued, and, consequently, the RBA intervened heavily during 1986:3 in support of the Australian dollar. Under the model-dependent EMP index the Australian dollar was under pressure to depreciate by 16.7 percent during this quarter, which was offset by RBA intervention.

The EMP indices indicate that the Australian dollar rebounded from late 1986 to late 1988; the DI indices suggest that the RBA intervened substantially to smooth the upward progress of the Australian dollar during this time. Two important exceptions during this period of pressure on the Australian dollar to appreciate were 1987:1 and 1987:4. The second of these anomalies is due to the global stock market crash. Macfarlane (1993) suggests that in both of these periods the RBA intervened heavily in support of the dollar, and this is supported out by the DI indices.

By late 1988, Macfarlane (1993) suggests that the RBA was starting to feel that the Australian dollar was becoming overvalued as it neared the U.S.$0.90/A$ level. From 1989:1 to 1989:3 the RBA was content to let the Australian dollar depreciate, as intervention only slightly offset depreciation pressure in the first two quarters and reversed appreciation pressure in the third quarter. Macfarlane (1993) also suggests that appreciation pressure was offset to a significant degree in the December quarter of 1990 and the June quarter of 1991 and this is supported out by the DI indices. The EMP values for these quarters, however, suggest that the pressure to appreciate was not substantial in these quarters.

The model-dependent DI index tells an interesting story about the recent history of the Australian dollar. From 1997:1 until 1998:3 the Australian dollar faced pressure to depreciate, which was exacerbated in four of the seven quarters by RBA intervention. In 1999:4, 2000:4, and 2001:2 the RBA intervened to reverse sizable pressure on the Australian dollar to appreciate. This provides some evidence that the RBA may be at least partly responsible for the fall of the Australian dollar from about U.S.$0.80 per A$ at the end of 1996 to around U.S.$0.50 per A$ by mid 2001. The model-independent DI index displays the same overall pattern, but much less strongly.

A number of limitations must be considered when interpreting the results of this analysis. First, two of the parameter estimates needed for the construction of the model-dependent EMP index are insignificantly different from zero. This suggests that there is a problem either with the model specification or with the estimation procedure and casts doubt on the accuracy of the model-dependent EMP index. Second, the parameter estimates are sensitive to the choice of instrumental variables, and small changes in the parameter estimates have a large impact on the EMP values. Third, the Spolander model does not allow any effect from sterilized intervention. As the sterilization parameter ([lambda]) is insignificantly different from one (fully sterilized intervention) it would be worthwhile in future to extend the model to allow sterilized intervention to have an impact on the exchange rate. Finally, both of the EMP indices used in this paper were derived under the assumption that changes in domestic lending (or the domestic interest rate) are not used to affect the exchange rate. There have been times, however, where the RBA has acknowledged that the state of the exchange rate has played some part in determining its monetary policy stance. Another possible future extension of this work is to allow for indirect intervention operating through changes in domestic lending or the domestic interest rate.

Conclusion

This paper estimates exchange market pressure (EMP) indices for the Australian dollar against the U.S. dollar exchange rate over the Australian post-float period using a model-dependent approach proposed by Weymark (1995, 1998) and a model-independent approach developed by Eichengreen et al. (1996). Although there are some concerns in the estimation of the model-dependent index, both indices appear to provide plausible descriptions of the pressure on the Australian dollar. Degree of intervention (DI) indices are also constructed. The results suggest that the Reserve Bank of Australia (RBA) contributed to the large depreciation of the Australian dollar between 1997 and 2001. In general, there is some evidence to suggest that over this period RBA intervention magnified pressure for the Australian dollar to depreciate and reversed pressure for the dollar to appreciate.

Appendix A: The Data

Quarterly measures of the data series were collected over the period
1984:1 to 2003:4.

[e.sub.t]             Australian dollar exchange rate against the
                      U.S. dollar
                      Obtained from RBA Bulletin Table F11, inverted
                      to express as AUD per USD, converted from
                      monthly to quarterly data by averaging the
                      three monthly figures and then logged.

[m.sub.t]             Australian M1 monetary aggregate
                      Obtained in seasonally adjusted form from RBA
                      Bulletin Table D03, converted from monthly to
                      quarterly data by averaging the three
                      monthly figures and then logged.

[i.sup.*.sub.t]       The U.S. 3-month certificate of deposits rate
                      Obtained from Federal Reserve Statistical
                      Table H.15 and then convened from monthly to
                      quarterly data by averaging the three monthly
                      figures.

[i.sub.t]             Australian 90-day bank-accepted bill rate
                      Obtained from RBA Bulletin Table F01 and then
                      converted from monthly to quarterly data by
                      averaging the three monthly figures.

[p.sub.t]             Australian consumer price index
                      Obtained from Australian Bureau of Statistics
                      Publication 6401.0 Table 1b and then logged.
                      The base period is 1989-1990.

[p.sup.*.sub.t]       The U.S. consumer price index
                      Obtained from the Bureau of Labor Statistics,
                      Series CUUR0000SA0, converted from monthly to
                      quarterly data by averaging the three monthly
                      figures and then logged. The base period is
                      1982-1984.

[y.sub.t]             Australian real gross domestic product
                      Obtained from RBA Bulletin Table G10 and
                      then logged.

[y.sup.trend.sub.t]   Long-run trend component of [y.sub.t]
                      Obtained using the Hodrick-Prescott filter and a
                      smoothing parameter of 1600, as recommended for
                      quarterly data.

[c.sub.t]             Australian gross national income
                      Obtained from RBA Bulletin Table G10 and
                      then logged.

[B.sub.t]             Australian money base
                      Obtained from RBA Bulletin Table D03, converted
                      from monthly to quarterly data by averaging the
                      three monthly figures and then logged.

[DELTA][R.sub.t]      Total foreign exchange transactions by the RBA
                      Obtained from RBA Bulletin Table A04, converted
                      from monthly to quarterly data by summing the
                      three monthly figures and then logged.

Appendix B: Augmented Dickey-Fuller Unit Root Tests

                                        Test
                                      Statistic   Test Statistic for
Series (1983:4-2003:4)                for Level    First Difference

[e.sub.t]                             -2.383          -3.343 *
[m.sub.t]                             -1.486          -4.563 *
[i.sub.t]                             -1.489          -3.398 *
[i.sup.*.sub.t]                       -2.336          -4.423 *
[p.sub.t]                             -3.146          -3.679 *
[p.sup.*.sub.t]                       -0.204          -2.801 ***
[y.sup.trend.sub.t]                   -0.949          -1.697
[y.sup.gap.sub.t]                     -3.402 **       -4.962 *
[c.sub.t]                             -2.070          -3.774 *
[DELTA][B.sub.t]/[DELTA][B.sub.t-1]   -4.048 *
[DELTA][r.sub.t]                      -5.036 *

All tests are run with two lags. ***, ** and * denote the rejection
of the null hypothesis of a unit root at the 10, 5, and 1 percent
significance levels, respectively. For the level tests [m.sub.t],
[p.sub.t], [p.sup.*.sub.t], [y.sup.trend.sub.t], and [c.sub.t] were
run with a trend and a constant, while [e.sub.t], [i.sub.t],
[i.sup.*.sub.t], and [y.sup.gap.sub.t] were run with just a constant.
For the first difference tests [m.sub.t], [p.sub.t], [p.sup.*.sub.t],
[y.sup.trend.sub.t], and [c.sub.t] were run with a constant, while
[e.sub.t], [i.sub.t], [i.sup.*.sub.t], [y.sup.gap.sub.t],
[DELTA][B.sub.t],/[DELTA][B.sub.t-1], and [DELTA][r.sub.t] were run
with neither a trend nor a constant

Appendix C: Estimates of the EMP and DI Indices

         EM[P.sup.MD]   EM[P.sup.MI]   D[I.sup.MD]   D[I.sup.MI]

Mar-84       0.026          0.004         1.389           2
Jun-84       0.045          0.029         0.591         0.361
Sep-84       0.025          0.027        -0.127        -0.046
Dec-84       0.004         -0.001             2          -1
Mar-85       0.092          0.070         0.380         0.193
Jun-85       0.076          0.061         0.325         0.158
Sep-85      -0.003         -0.022            -1        -0.565
Dec-85       0.058          0.032         0.743         0.530
Mar-86      -0.031         -0.020         0.583         0.353
Jun-86       0.027          0.010         1.012         1.032
Sep-86       0.167          0.105         0.610         0.379
Dec-86      -0.174         -0.085         0.839         0.670
Mar-87       0.036          0.003         1.506           2
Jun-87      -0.147         -0.070         0.860         0.706
Sep-87      -0.061         -0.022         1.032         1.085
Dec-87       0.124          0.052         0.954         0.891
Mar-88      -0.048         -0.027         0.702         0.479
Jun-88      -0.177         -0.091         0.800         0.610
Sep-88      -0.030         -0.016         0.768         0.564
Dec-88      -0.041         -0.033         0.294         0.140
Mar-89       0.016          0.012         0.430         0.228
Jun-89       0.039          0.038         0.034         0.013
Sep-89      -0.019         -0.007         1.010         1.026
Dec-89      -0.024         -0.016         0.501         0.281
Mar-90       0.037          0.023         0.626         0.395
Jun-90      -0.057         -0.025         0.921         0.820
Sep-90      -0.025         -0.023         0.081         0.033
Dec-90      -0.011          0.007             2          -1
Mar-91       0.000         -0.001             2        -0.786
Jun-91      -0.003          0.003             2          -1
Sep-91      -0.008         -0.009        -0.177        -0.062
Dec-91       0.022          0.012         0.710         0.488
Mar-92       0.080          0.038         0.870         0.723
Jun-92       0.013          0.006         0.914         0.806
Sep-92       0.077          0.042         0.757         0.549
Dec-92       0.040          0.029         0.458         0.248
Mar-93       0.024          0.007         1.124         1.393
Jun-93      -0.003          0.001             2          -1
Sep-93      -0.003          0.007             2        -0.969
Dec-93      -0.001          0.000         1.438           2
Mar-94      -0.022         -0.026        -0.287        -0.095
Jun-94      -0.021         -0.014         0.552         0.325
Sep-94       0.003         -0.004             2          -1
Dec-94       0.007         -0.005             2          -1
Mar-95       0.001          0.007            -1        -0.557
Jun-95       0.035          0.023         0.588         0.358
Sep-95      -0.012         -0.016        -0.495        -0.148
Dec-95      -0.026         -0.011         0.983         0.958
Mar-96       0.020          0.003         1.370           2
Jun-96      -0.040         -0.025         0.598         0.367
Sep-96      -0.054         -0.019         1.056         1.158
Dec-96      -0.012         -0.010         0.363         0.182
Mar-97       0.005          0.010            -1        -0.319
Jun-97       0.013          0.009         0.469         0.256
Sep-97       0.013          0.015        -0.333        -0.108
Dec-97       0.018          0.028        -0.855        -0.219
Mar-98       0.059          0.027         0.900         0.778
Jun-98       0.012          0.021            -1        -0.274
Sep-98       0.056          0.038         0.525         0.301
Dec-98      -0.041         -0.030         0.430         0.227
Mar-99      -0.001         -0.001            -1        -0.362
Jun-99      -0.039         -0.027         0.486         0.270
Sep-99       0.032          0.016         0.827         0.650
Dec-99      -0.194         -0.075         1.009         1.022
Mar-00       0.153          0.071         0.882         0.744
Jun-00       0.000          0.014            -1        -0.626
Sep-00       0.028          0.021         0.436         0.232
Dec-00      -0.074         -0.011         1.388           2
Mar-01       0.027          0.016         0.667         0.439
Jun-01      -0.064         -0.020         1.137         1.445
Sep-01       0.023          0.008         1.031         1.084
Dec-01      -0.006         -0.003         0.664         0.436
Mar-02       0.034          0.010         1.162         1.557
Jun-02      -0.076         -0.049         0.589         0.358
Sep-02       0.021          0.012         0.664         0.435
Dec-02      -0.017         -0.013         0.464         0.253
Mar-03       0.018         -0.011             2          -1
Jun-03      -0.161         -0.083         0.793         0.599
Sep-03      -0.001         -0.004            -1        -0.554
Dec-03      -0.101         -0.065         0.582         0.352

Table 1--Estimates of Equations (16), (17), and (18) Using Two-Stage
Least Squares

                  Estimate    t-statistics

Equation 16: Instrument List: ([DELTA][p.sup.*.sub.t])
([DELTA][i.sup.*.sub.t]) ([DELTA][c.sub.t]) ([DELTA][i.sub.t-1])

[[beta].sub.0]      0.000     0.069 (0.945)   J-B: 31.225 (0.000)
[[beta].sub.1]      1.514     1.940 (0.056)   ARCH: 1.727 (0.786)
[[beta].sub.2]     -0.013    -2.047 (0.044)   LM: 5.892 (0.207)

Equation 17: Instrument List: ([DELTA][p.sup.*.sub.t])
([DELTA][i.sup.*.sub.t]) ([DELTA][c.sub.t])
([DELTA][i.sup.trend.sub.t])

[[alpha].sub.0]     0.002     1.405 (0.164)   J-B: 6.460 (0.040)
[[alpha].sub.1]     0.653     1.887 (0.063)   ARCH: 3.893 (0.421)
[[alpha].sub.2]     0.079     1.036 (0.303)   LM: 21.018 (0.000)

Equation 18: Instrument List: ([DELTA][p.sup.*.sub.t])
([DELTA][i.sup.*.sub.t]) ([DELTA][i.sub.t-1]) ([DELTA][p.sub.t-1])
([DELTA][r.sub.t-1]) ([DELTA][y.sup.gap.sub.t])

[[gamma].sub.0]     0.013     1.194 (0.236)   J-B: 461.046 (0.000)
[[gamma].sub.1]    -0.854    -0.351 (0.727)   ARCH: 0.689 (0.953)
[[gamma].sub.2]    -0.166    -0.147 (0.884)   LM: 3.317 (0.535)
[lambda]           -0.962    -9.931 (0.000)

Jarque-Bera (J-B); Lagrange multiplier (ARCH); Breusch-Godfrey
Lagrange Multiplier (LM). Probability values in parentheses. All
ARCH and LM tests are run with four lags

(1) See, for example, Modeste (1981) for Argentina, Kim (1985) for Korea, Hacche and Townend (1981) for the United Kingdom, Burdekin and Burkett (1990) for Canada, and Connolly and da Silveira (1979) for Brazil.

(2) See Spolander (1999:83) for a detailed discussion of this problem.

References

(1.) Burdekin, R.C., and P. Burkett, "A Re-examination of the Monetary Model of Exchange Market Pressure: Canada, 1963-1988," Review of Economics and Statistics, 72, no. 4 (1990), pp. 677-681.

(2.) Connolly, M., and J.D. da Silveira, "Exchange Market Pressure in Postwar Brazil: An Application of the Girton-Roper Monetary Model," The American Economic Review, 69, no. 3 (1979), pp. 448-454.

(3.) Davidson, R., and J.G. MacKinnon, "Several Tests for Model Specification in the Presence of Alternative Hypothesis," Econometrica, 49 (1991) pp. 781-993.

(4.) Edison, H.J., "The Effectiveness of Central-Bank Intervention: A Survey of the Literature After 1982," Special Papers in International Economics, No. 18, International Finance Section, Princeton University (1993).

(5.) Eichengreen, B., A.K. Rose, and C. Wyplosz, "Speculative Attacks on Pegged Exchange Rates: an Empirical Exploration with Special Reference to the European Monetary System," in M.B. Canzoneri, W.J. Ethier, and V. Grilli (eds.), The New Transatlantic Economy (Cambridge: Cambridge University Press: Cambridge 1996), pp. 191-228.

(6.) Girton, L., and D. Roper, "A Monetary Model of Exchange Market Pressure Applied to the Post-float Canadian Experience," American Economic Review, 67 (1977), pp. 537-548.

(7.) Hacche, G. and J.C. Townend, "Monetary Models of Exchange Rates and Exchange Market Pressure: Some Limitations and an Application to Sterling's Effective Rate," Weltwirtschafiliches, 17 (1981), pp. 622-637.

(8.) Kim, I., "Exchange Market Pressure in Korea: An Application of the Girton-Roper Monetary Model," Journal of Money, Credit and Banking, 17, no. 2 (1985), pp. 258-263.

(9.) Macfarlane, I.J., "The Exchange Rate, Monetary Policy and Intervention," Reserve Bank of Australia Bulletin (December 1993), pp. 16-25.

(10.) Mah, J.S., "Exchange Market Pressure in Korea: Dynamic Specifications," Applied Economics Letters, 5 (1998), pp. 765-768.

(11.) Modeste, N.C., "Exchange Market Pressure During the 1970s in Argentina: An Application of the Girton-Roper Monetary Model," Journal of Money. Credit and Banking, 13, no. 2 (1981), pp. 234-240.

(12.) Pentecost, E.J., C. Van-Hooydonk, and A. Van-Poeck, "Measuring and Estimating Exchange Market Pressure in the EU," Journal oflnternational Money and Finance, 20, no. 3 (2001), pp. 401-418.

(13.) Pollard, S.K., "Foreign Exchange Market Pressure and Transmission of International Disturbances: The Case of Barbados, Guyana, Jamaica, and Trinidad and Tobago," Applied Economic Letters, 6 (1999), pp. 1-4.

(14.) Roper, D., and S.J. Turnovsky, "Optimal Exchange Market Intervention in a Simple Stochastic Macro Model," Canadian Journal of Economics, 13 (1980), pp. 296-309.

(15.) Spolander, M., "Measuring Exchange Market Pressure and Central Bank Intervention," Bank of Finland Studies, E. 17 (1999).

(16.) Tanner, E., "Exchange Market Pressure and Monetary Policy: Asia and Latin America in the 1990s," IMF Staff Papers, 14, no. 3 (2001).

(17.) Turnovsky, S.J., "Optimal Exchange Market Intervention: Two Alternative Classes of Rules," in J.S. Bhandari (ed.) Exchange Rate Management Under Uncertainty (Cambridge: MIT Press, 1985).

(18.) Weymark, D., "Estimating Exchange Market Pressure and the Degree of Exchange Market Intervention for Canada," Journal of International Economics, 39 (1995), pp. 273-295.

(19.) Weymark, D., "Measuring the Degree of Exchange Market Intervention in a Small Open Economy," Journal oflnternational Money and Finance, 16 (1997), pp. 55-79.

(20.) Weymark, D., "A General Approach to Measuring Exchange Market Pressure," Oxford Economic Papers, 50 (1998), pp. 106-121.

(21.) Wohar, M.E., and B.S. Lee, "An Application of the Girton-Roper Monetary Model of the Exchange Market Pressure: The Japanese Experience, 1959-1991," Rivista Internazionale di Science Economiche e Commercialle, 39, no. 12 (1992), pp. 993-1013.

Shakila Jeisman

Queensland University of Technology