Working Paper

Real Exchange Rate and Net Trade Dynamics: Financial and Trade Shocks

Abstract: This paper studies the drivers of the US real exchange rate (RER), with a particular focus on its comovement with net trade (NT) flows. We consider the entire spectrum of frequencies, as the low-frequency variation accounts for 62 and 64 percent of the unconditional variance of the RER and NT, respectively. We develop a generalization of the standard international business cycle model that successfully rationalizes the joint dynamics of the RER and NT while accounting for the major puzzles of the RER. We find that, while financial shocks are necessary to capture high frequency variation in the RER, trade shocks are essential for the lower frequency fluctuations.

JEL Classification: E30; E44; F30; F41; F44;

https://doi.org/10.17016/IFDP.2025.1419

Bibliographic Information

Provider: Board of Governors of the Federal Reserve System (U.S.)

Part of Series: International Finance Discussion Papers

Publication Date: 2025-08-27

Number: 1419