The relationship between macroeconomic variables and foreign exchange rate: evidence from a sample of emerging (Brazil & South Africa) and advanced (Germany & the United Kingdom) economies

Abstract

This study tries to determine the long-run relationship between macroeconomic variables such as interest rates, inflation, money supply, productivities, trade balances and exchange rate of Brazil, South Africa, Germany, and the United Kingdom. The study uses monthly data from January 1999 to December 2016. I use co-integration methods and Granger causality tests to examine the impact of the macroeconomic indicators on the exchange rate in the long-run. I find that in the long-run the differentials for interest rates, inflation, money supply, and trade balance have a significant adverse effect and the productivity differential has a significant positive impact on the Real/Dollar rate for Brazil. The study also reveals a significant negative relationship between money supply differential and the Rand/Dollar rate for South Africa, while trade balance has a significant positive effect on the Rand/Dollar exchange rate in the long-run. I find that trade balance has a negative significant impact on the Euro/Dollar in the long-run for Germany. In the long-run differentials for inflation and productivity have a significant negative impact, but differentials for the interest rates, money supply, and trade balance have a significant positive effect on the Pound/Dollar for the United Kingdom. Lastly, I find that the differentials for interest rates for Brazil and money supply for South Africa, significantly help to predict the future level of their exchange rates in the short-run. However, I do not find any evidence of a short-run relationship between the selected macroeconomic variables and the exchange rates for both Germany and the United Kingdom.