Purpose
This study evaluates the macroeconomic sustainability and volatility transmission dynamics of the UAE Dirham’s fixed exchange rate peg to the U.S. dollar. It investigates whether the peg effectively reduces exchange rate volatility while transmitting external monetary shocks into the domestic economy.
Design / Methodology / Approach
Using quarterly data from 2000Q1–2023Q4, the study employs a GARCH(1,1) model to estimate volatility persistence and a Vector Autoregression (VAR) framework to examine dynamic interactions between exchange rate stability, oil prices, inflation, U.S. interest rates, and GDP growth. Impulse Response Functions (IRFs) and Forecast Error Variance Decomposition (FEVD) are used to interpret shock transmission mechanisms.
Findings
Results indicate extremely low exchange rate volatility under the peg. However, U.S. monetary policy shocks significantly affect UAE inflation and output dynamics. Oil price shocks remain the dominant macroeconomic driver. The peg enhances trade stability but constrains monetary autonomy.
Research Implications
The findings contribute to the exchange rate regime literature by integrating volatility modeling and transmission mechanisms in a hydrocarbon-dependent economy.
Practical Implications
Policy sustainability requires fiscal discipline, macroprudential tools, and diversification to mitigate external shock exposure.
Originality/Value
This study provides one of the few comprehensive econometric assessments combining GARCH and VAR methodologies in the GCC fixed exchange regime context.