Description

Standard models—based exclusively on macro-financial variables—have made little progress
in explaining the behavior of exchange rates. In this paper, we introduce a neglected set of “soft
power” factors capturing a country’s demographic, institutional, political and social
underpinnings to uncover the “missing” determinants of exchange rate volatility over time and
across countries. Based on a balanced panel dataset comprising 115 countries during the period
1996–2011, the empirical results are generally robust across different estimation methodologies
and show a high degree of persistence in exchange rate volatility, especially in emerging market
economies. After controlling for standard macroeconomic factors, we find that the “soft power”
variables—such as an index of voice and accountability, life expectancy, educational
attainment, the z-score of banks, and the share of agriculture relative to services—have a
statistically significant influence on the level of exchange rate volatility across countries.

More publications in this series: Working Papers

More publications by: Serhan Cevik ; Richard Harris ; Fatih Yilmaz