Analysis of the Relationship between Real Effective Exchange Rate, Common Equity Tier 1 Ratio and Return on Equity: Evidence from Turkey

Abstract

The analysis of the relationship between exchange rate fluctuations, common equity and return on equity is of high importanceto be able to improve adequate policies with the purpose of maintaining stability in foreign exchange rate, when it is taken intoconsideration that mentioned fluctuations lead to the loss in bank capital and profitability. Hence, the studies in the relatedliterature have been increasing in great amount recently. The objective of this study is to investigate the relationship betweenreal effective exchange rate, common equity and return on equity in the period of 2014:01 - 2018:09. The unit root properties ofthe series are tested by using Carrion-i Silvestre et al.(2009) unit root test and the cointegration relationship between the seriesis investigated by employing Maki(2012) cointegration test. Both tests take into account multiple structural breaks. The resultsindicate that there is only a long run relationship between real effective exchange rate and return on equity for Turkish BankingSector with structural breaks.