An equilibrium theory of nominal and real exchange rate comovement

This study develops a quantitative equilibrium theory to offer an explanation of one of the most puzzling aspects of empirical exchange rate behavior - the high degree of nominal and real exchange rate comovement. Technology shocks coupled with the accomodative response of monetary policy to output fluctuations are primarily responsible for the covariation between nominal and real exchange rates. Shocks to the marginal efficiency of investment also play an important role. (C) 1999 Elsevier Science B.V. All rights reserved.