Testing for the Fundamental Determinants of the Long-Run Real Exchange Rate: The Case of Taiwan

Three things have been suggested in this paper regarding the real exchange rate movements of the Taiwanese dollar with respect to the US dollar. First, the real exchange rates between the Taiwanese and the US dollar did not move as PPP predicts by cointegration test and impulse response function analysis. Also, through the analyses of impulse response functions, innovation in nominal exchange rate, domestic and foreign prices results in permanent changes in the real exchange rate. Finally, in the long-run, differential productivity growth between the traded and non-traded goods and the changes in relative unit labor cost can lead to the changes in the real exchange rates.