The Impact of Economic Sanctions on Real Exchange Rate Misalignment in Iran

Exchange rate misalignment has involved many world countries. It has profoundly affected the internal and external sectors of the economy. Hence, disclosing the emergence and formation causes of the misalignments is a requisite. Studies on the Iranian economy have mostly evaluated the sanctions’ efficacy on macroeconomic variables, involving the economic growth, domestic production, liquidity, exports, imports, oil price, oil revenues, etc. Few studies have evaluated the sanctions’ impact on the foreign exchange market. There is no research work assessing the sanctions’ impact on exchange rate misalignment in Iran. The main purpose of this paper is to estimate the impact of economic sanctions on real effective exchange rate (REER) misalignment in the context of the Iranian economy during the period 1996:1 - 2019:4. In doing so, at first we apply the model designed by Edwards (1989) and Cottani et al. (1990) and using smooth transition regression (STR) to estimate the REER equilibrium and its misalignment. Moreover, factor analysis is used to estimate the sanction indices. Then to analyze the impact of economic sanctions on the REER misalignment a nonlinear autoregressive distributed lag (NARDL) model is employed.The time path of estimated REER misalignment indicates a lot of volatilities during the period of study. The estimated results also show that sanctions significantly affect these volatilities in the short run and long run and thereby increase REER disequilibrium in the Iranian economy.