Determinants of Exchange-Rate Volatility: The Case of the New EU Members

Abstract

Exchange-rate stability is not only a criterion for joining the Economic Monetary Union (EMU) but also a fundamental property of stable economic development. At present, new members of the European Union are trying to achieve this stability. However, there are several factors that could slow or interrupt these countries’ EMU-integration process. For this reason, this paper analyzes key factors contributing to euro exchange-rate volatility in the new EU members: economic openness, the “news” factor, and the exchange-rate regime. A TARCH (threshold autoregressive conditional heteroskedasticity) model is employed to model the volatility of exchange rates. Although this paper focuses on each country separately, in general the results suggest that economic openness has a calming effect on exchange-rate volatility, news significantly affects volatility, and flexible regimes experience higher degrees of volatility. The extent of all these effects varies substantially across country, however.

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