Comments welcome On the relationship between real exchange rate and public spending: The case of Argentina

Drawing on Rodriguez (1989) and De Gregorio and Wolf (1994), this paper develops a model to explain the recent experience of appreciation in the exchange rate in Argentina. Although we incorporate the fundamentals to explain the equilibrium value of the exchange rate, the focus is on the close relationship between public spending and exchange rate. We develop a standard long-run cointegration analysis (error correction model) using determinants from the supply side. Different periods of overvaluation were identified compared to the equilibrium implied by an econometric model based on fundamentals. Particularly, it is found that the dramatic increase in government spending since the currency board was adopted in 1991 produced a significant appreciation on the real exchange rate both in the long and short run