The Connection between the Exchange Rate and the Balance of Payments Accounts in the Czech Republic: An Econometric Approach

Abstract

Relationships between the nominal exchange rate, the current account and the financial account of the balance of payments in the Czech Republic are investigated in this presented paper. The implemented cointegration analysis and vector error correction model suggest one pair of Granger causality. It has been discovered that change in the current account balance Granger-causes a change in financial account balance. This relationship has the nature of two-way Granger causality, which means that a reversed relationship holds as well. Other relationships implying Granger causality were not found. Error terms were significant only in regressions with both accounts as dependent variables, which imply that only these variables return to their long-term equilibria. Because an increase in financial account surplus leads to a decrease in current account surplus (or deepening the current account deficit), excessive liberalization of the Czech financial system can lead to a large capital inflow, jeopardizes current account sustainability and results in a currency crisis in the Czech economy.

An examination of the causality relationship between current and financial accounts in Turkey

“…The results of more detailed analysis also indicate that the causality relationship is obscured in circumstances of extreme fluctuation in the economy. Urbanovsky (2017) examines the interaction between current account and financial account in the Czech Republic. Quarterly data for 1995-2015 is used in a causality analysis conducted within the framework of the Johansen Cointegration and Error Correction model.…”

“…Nevertheless, determining the source of the increase in total demand is a crucial issue in identifying the direction of the causality relationship between capital and current account. One group of economists claims that foreign capital is required to finance a growing current account deficit based on expanding domestic demand, which results in changes in the financial account (Higgins and Klitgaard 1998;Lau and Fu 2011;Oeking and Zwick 2015;Urbanovsky 2017). Thus, any increase in domestic demand, whether from the private or the public sector, causes a deficit in the current account, whereupon foreign capital is needed to finance this deficit in the current account.…”