estimate the VEC model using data only up to 2007, to ensure that the fundamental relationship is robust to potential data mismeasurement in recent years. The coefficients of the cointegrating vector are statistically significant and have the expected signs, conforming to economic theory. The following cointegrating relation is obtained: Besides being used to estimate the equilibrium exchange rate, based on the actual values of macroeconomic fundamentals, the coefficients of the cointegrating relation are useful to discuss what the equilibrium exchange rate level could be going forward, in a context where economic fundamentals are expected to evolve. Based on the estimates presented above, for every 1% increase in real soybean prices, representing an improvement in the terms of trade, the real exchange rate appreciates by 0.64% in the long run. A 1% increase in the ratio of CPI-to-PPI relative to trade partners, a proxy for tradables-nontradables productivity differentials, results in a 1.46% appreciation of the real exchange rate. A 1% increase in the level of real reserves implies a 0.31% appreciation of the exchange rate. Finally, a 1% increase in trade openness, measured as real total trade, depresses the real exchange rate by 0.63% in the long-run. A growth decomposition of the adjusted-REER for this baseline case shows the contributions of the various fundamentals in explaining movements in the REER (see Appendix Figure A.6).

The error correction coefficient is -0.031, meaning that if the real exchange rate revalues it will be adjusted downward, and vice versa, converging towards the long-run equilibrium. This adjustment speed translates to a half-life estimated at approximately 1.8 years, in line with findings in the empirical literature.

Finally, the equilibrium peso exchange rate (BEER) is estimated by applying the long-run elasticities to the actual values of the macroeconomic fundamentals. The Hodrick-Prescott (HP) filter<sup>30</sup> is applied to the predicted values of the estimated equation in order to abstract from short-term random disturbances. The (smoothed) fitted values of the REER are measures of real exchange rate equilibrium.

The log-deviation of the actual REER from the estimated BEER measures the degree of overvaluation. According to the baseline specification, the peso is overvalued by 25% (21% applying the HP filter). A much larger overvaluation of approximately 114% (110% applying the HP filter) is obtained using the inflation-adjusted REER measure. Robustness checks suggest that the former underestimates the exchange rate misalignment whereas the latter largely overestimates it. This large discrepancy in measuring exchange rate misalignment highlights sensitivity of results to the mismeasurement of the REER. Contrasting results across the two measures, we detect a substantial decoupling of the misalignment according to the adjusted and unadjusted REER. Whereas relatively little misalignment is evidenced by the unadjusted REER, the adjusted-REER measure points to substantial overvaluation of the peso.

Additionally considering the adjusted measures that correct for potential mismeasurement (underestimation) of the CPI-PPI ratio reduces estimates of overvaluation substantially. A smaller overvaluation is estimated according to the adjusted REER towards more plausible values (e.g., compared to parallel exchange rate

> al, 1997, among others), where the fundamentals are insignificant (we eliminate one by one those that are least significant), or where coefficient signs are inconsistent with theoretical predictions. 30 We use a smoothing parameter of 129,600 consistent with monthly data.

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