# Collinearity problem in exchange rate function

Hello,

I construct an small open economy DSGE model. Foreign sector is set to exogenous. This is the linear code.

code.mod (7.0 KB)
First question:
I applied these three function to describe the exchange rate:
‘-c=rf+ex(+1)-c(+1)-pif(+1)-ex;’
‘pif=rho_pifpif(-1)+e_pif;’
'rf=rho_rf
rf(-1)+e_rf;’
I think they are not collinear, but the ‘MODEL_DIAGNOSTICS’ told me there is a collinearity problem.

Second question:
I have according to the link to revised the timing issue of capital variable. Timing of capital in two sector economy
However, it still shows:
There are 8 eigenvalue(s) larger than 1 in modulus for 9 forward-looking variable(s)
The rank condition ISN’T verified!
Blanchard & Kahn conditions are not satisfied: indeterminacy.

Could you help me to analyse the problem?

1. Your model has a unit root. Thus, the collinearity message is expected.
2. The BK condition violation is often caused by a timing problem. But it’s hard to debug in a model of that size. You may want to start with a simpler version.

Thanks for your reply. Does this unit root come from the nominal interest rate
‘r’? Should I change the nominal interest rate to the real interest rate?

No, the nominal interest rate regularly is stationary and does not cause unit roots.