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Freely Floating Exchange Rates Do Not Systematically Overshoot

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  • Pippenger, John
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    Abstract

    The exchange rate literature contains two inconsistent strands. There is a large theoretical and empirical literature on overshooting. In that literature overshooting is an important explanation for exchange rate volatility. A separate literature says that exchange rates are martingales and that models do not beat a random walk. Both can not be true. I show that the evidence for overshooting is highly suspect while the evidence that flexible exchange rates are approximately martingales is rock solid. Given the strength of the evidence, models that imply overshooting probably should be rejected out of hand.

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    Bibliographic Info

    Paper provided by Department of Economics, UC Santa Barbara in its series University of California at Santa Barbara, Economics Working Paper Series with number qt97m8z6hw.

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    Date of creation: 01 Feb 2008
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    Handle: RePEc:cdl:ucsbec:qt97m8z6hw

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    Keywords: overshooting; exchange rates; volatility; martingales;

    References

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    Cited by:
    1. Pippenger, John, 2009. "Dornbusch Was Wrong: There is no Convincing Evidence of Overshooting, Delayed or Otherwise," University of California at Santa Barbara, Economics Working Paper Series qt78k0b5zw, Department of Economics, UC Santa Barbara.
    2. Pippenger, John, 2012. "The Fragility of Overshooting," University of California at Santa Barbara, Economics Working Paper Series qt4rd5j98c, Department of Economics, UC Santa Barbara.

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