The Impact of Exchange Rate Regimes on Real Exchange Rates: ABC and Mexico in the 1990s

This paper analyses the impact of exchange rate regimes on real exchange rates, as defined by the relative price of nontradables to tradables in Argentina, Brazil, Chile (ABC) and Mexico from 1990 to 2002. As identified by the empirical literature, the real exchange rate is determined in the long-run by the well-known Balassa-Samuelson effect, and in the medium and short run by government expenditure and terms of trade. Another, little discussed, explanatory factor that may cause real exchange rates to deviate from their trend is fixed exchange rate regimes. In countries that are international price-takers and adopt such a regime, exporters are forced to adjust their local price of tradables. This regime also affects the price of nontradables in countries with liberalised capital accounts, via portfolio inflows that increase demand for a “given†supply of nontradables in the short run. The econometric results of the paper confirm the impact of exchange rate regimes on relative prices in all countries except Chile which managed with flexibility the exchange rate and adopted capital controls. In the other three countries, relative prices deviated strongly from their trends due to the fixed regimes. In turn this caused the share of the nontradable sector to increase disproportionally relative to the tradable sector.