How real are real exchange rates?

This Paper analyzes the role of real disturbances in the real dollar exchange rates of the mark, yen and the pound both during the post-1973 float and in the long-run historical date. The results indicate dominate roles of real shocks in all three exchange rates in the post-1973 float although a substantial portion of short-run variations in the mark and yen contains monetary characteristics. In the long historical date, real shocks are far less important explaining only a small portion of nominal exchange rate movements and 50 to 80 percent of real exchange rate movements. The analysis is based on the Mundell-Fleming-Dornbusch model as the structural model and the multivariate method of time series decomposition to incorporate the long-run invariance of the exchange rate with respect to monetary shocks. [F31, F41].