Fiscal deficits and mean reversion in real exchange rates

The mean reversion of real exchange rates in G5 countries depends on both countries' fiscal deficits/surplus in a nonlinear way. When the fiscal policy pushes the real exchange rate to be deviated further away from the equilibrium level, the mean reversion process is faster.

► A fiscal policy variable is allowed to act as a conditioning variable in modeling exchange rate movements. ► Fiscal deficits/surpluses impact the mean reversion of real exchange rates in a nonlinear manner. ► The additively separable response of real exchange rates to fiscal deficits is insignificant.