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What Drives Heterogeneity in Foreign Exchange Rate Expectations : Deep Insights from a New Survey

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Author Info
Christian Dreger
Georg Stadtmann

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Abstract

Foreign exchange rate expectations play a central role in virtually all monetary models for the open economy. Therefore, it is extremely important to gain empirical insights into the expectations formation process. In this paper, we use a unique disaggregated data set to model the expectations of the Yen/USD exchange rate of about 50 leading foreign exchange rate professionals. The survey includes not only forecasts of the exchange rate, but also for macroeconomic fundamentals, like GDP growth, inflation, and interest rates. Different expectations of fundamentals might lead to different views of exchange rate dynamics. Using panel models, we are able to confirm the het-erogeneity of exchange rate expectations often detected by former authors. More impor-tant, we provide strong evidence regarding the likely source of heterogeneity. In line with forward looking models for the exchange rate, expected fundamentals have a sub-stantial impact on exchange rate expectations, thereby challenging the backward look-ing evidence of previous studies. However, the heterogeneity in the expectations of macroeconomic fundamentals is not sufficient to explain the heterogeneity in exchange rate expectations.

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Paper provided by DIW Berlin, German Institute for Economic Research in its series Discussion Papers of DIW Berlin with number 624.

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Length: 14 p.
Date of creation: 2006
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Handle: RePEc:diw:diwwpp:dp624

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Related research
Keywords: Exchange rate expectations heterogeneity of expectations expected fundamentals

Find related papers by JEL classification:
F31 - International Economics - - International Finance - - - Foreign Exchange
F37 - International Economics - - International Finance - - - International Finance Forecasting and Simulation
C23 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Models with Panel Data

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    Other versions:
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