Misalignment Under Different Exchange Rate Regimes: The Case of Turkey

Abstract

The paper examines misalignment of the Turkish lira between 1998 to 2008. Misalignment, specifically overvaluation has been linked to fixed exchange rate regimes. By studying the case of Turkey during this period which covers both a fixed and floating exchange rate regime, we contribute to the literature on the relation between misalignment and exchange rate regimes. We first estimate the equilibrium real exchange rate for Turkey, then compute misalignment and finally test for structural breaks in the misalignment series. Through our tests we find three structural regimes which we call the pre-crisis period, the transition period and the post-crisis period. We find considerable overvaluation in first regime, which is when Turkey had a fixed exchange rate regime. This was not the case for the periods that had floating exchange rates. Thus, we conclude that overvalued currencies that have been linked to financial crises are a more serious concern for fixed exchange rate regimes.

Does currency misalignment matter for economic growth? – Evidence from Turkey

“…Nevertheless, the actual RER was adjacent to the level of equilibrium during the floating exchange rate regime. Dagdeviren et al (2012) examine misalignment of RER for Turkey under different exchange rate regimes through 1998 and 2011 employing Edwards's (1989) theoretical framework. It identifies considerably overvalued domestic currency of Turkey during the fixed exchange rate regime which was not the case for the floating exchange rate episodes.…”