Interest rates, inflation, and exchange rates in fragile EMEs: A fresh look at the long-run interrelationships

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Sen H., KAYA A., Kaptan S., Comert M.

Journal of International Trade and Economic Development, vol.29, no.3, pp.289-318, 2020 (Peer-Reviewed Journal) identifier identifier

  • Publication Type: Article / Article
  • Volume: 29 Issue: 3
  • Publication Date: 2020
  • Doi Number: 10.1080/09638199.2019.1663441
  • Journal Name: Journal of International Trade and Economic Development
  • Journal Indexes: Science Citation Index Expanded, Social Sciences Citation Index, Scopus, Academic Search Premier, IBZ Online, International Bibliography of Social Sciences, ABI/INFORM, Business Source Elite, Business Source Premier, EconLit, Geobase
  • Page Numbers: pp.289-318


This study attempts to establish the possible existence of the long-run interrelationship between interest rates, inflation, and exchange rates in five EMEs (Brazil, India, Indonesia, South Africa, and Turkey), what is so-called by Morgan Stanley 'Fragile Five'. To do so, we utilize Li and Lee's [2010. "ADL Tests for Threshold Cointegration." Journal of Time Series Analysis 31 (4): 241-254.] Autoregressive Distributed Lag test for threshold cointegration and apply it to the sample country's time-series data from 2013:m1 to 2018:m12. Overall, our results are threefold: First, there seems to be a long-run positive relationship between actual rates of inflation and nominal interest rates supporting the validity of the ex-post Fisher hypothesis for all the sample countries. Second, the results support the presence of a cointegrating relationship between interest rates and exchange rates for Brazil, India, and Turkey but not for Indonesia and South Africa. Lastly, without exception, exchange rates and actual rates of inflation in all the sample countries tend to co-move in the long-run, implying that the depreciation of their currencies creates an inflationary effect on domestic prices through raising the prices of imported goods. The results above are widely consistent with both theoretical expectations and the relevant empirical literature.