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A Time Series Model for an Exchange Rate in a Target Zone with Applications

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  • Timo Terasvirta

Abstract

In this paper we introduce a flexible target zone model that is capable of characterizing the dynamic behaviour of an exchange rate implied by the original target zone model of Krugman (1991) and its modifications. Our framework also enables the modeller to estimate an implicit target zone if it exists. A modelling cycle consisting of specification, estimation, and evaluation stages is constructed. The model is fitted to series of daily observations of the Swedish and Norwegian currency indices and the estimated models are evaluated

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Bibliographic Info

Paper provided by Econometric Society in its series Econometric Society 2004 Australasian Meetings with number 340.

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Date of creation: 11 Aug 2004
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Handle: RePEc:ecm:ausm04:340

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Keywords: target zone model; cycles;

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  1. Bekaert, G.R.J. & Gray, S.F., 1997. "Target zones and exchange rates: An empirical investigation," Discussion Paper 1997-22, Tilburg University, Center for Economic Research.
  2. repec:sae:niesru:v:167:y::i:1:p:106-112 is not listed on IDEAS
  3. Lindberg, Hans & Soderlind, Paul, 1994. "Testing the basic target zone model on Swedish data 1982-1990," European Economic Review, Elsevier, vol. 38(7), pages 1441-1469, August.
  4. Bollerslev, Tim, 1986. "Generalized autoregressive conditional heteroskedasticity," Journal of Econometrics, Elsevier, vol. 31(3), pages 307-327, April.
  5. Torres, Jose L., 2000. "Stochastic intramarginal interventions in target zones," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 10(3-4), pages 249-262, December.
  6. Taylor, Mark P. & Iannizzotto, Matteo, 2001. "On the mean-reverting properties of target zone exchange rates: a cautionary note," Economics Letters, Elsevier, vol. 71(1), pages 117-129, April.
  7. Leonardo Bartolini & Alessandro Prati, 1998. "Soft exchange rate bands and speculative attacks: theory and evidence from the ERM since August 1993," Staff Reports 43, Federal Reserve Bank of New York.
  8. Svensson, Lars E. O., 1993. "Assessing target zone credibility : Mean reversion and devaluation expectations in the ERM, 1979-1992," European Economic Review, Elsevier, vol. 37(4), pages 763-793, May.
  9. Eitrheim, Oyvind & Terasvirta, Timo, 1996. "Testing the adequacy of smooth transition autoregressive models," Journal of Econometrics, Elsevier, vol. 74(1), pages 59-75, September.
  10. Klaster, Michel A. & Knot, Klaas H. W., 2002. "Toward an econometric target zone model with endogenous devaluation risk for a small open economy," Economic Modelling, Elsevier, vol. 19(4), pages 509-529, August.
  11. Iannizzotto, Matteo & Taylor, Mark P, 1999. "The Target Zone Model, Non-linearity and Mean Reversion: Is the Honeymoon Really Over?," Economic Journal, Royal Economic Society, vol. 109(454), pages C96-110, March.
  12. Lundbergh, Stefan & Terasvirta, Timo, 2002. "Evaluating GARCH models," Journal of Econometrics, Elsevier, vol. 110(2), pages 417-435, October.
  13. Staffan Ringbom, 2003. "Narrow Target Zones within Broad Zones: A Non-Speculative Exchange Rate Solution with Limited Resources," Open Economies Review, Springer, vol. 14(3), pages 319-341, July.
  14. Lars E. O. Svensson, 1992. "An Interpretation of Recent Research on Exchange Rate Target Zones," Journal of Economic Perspectives, American Economic Association, vol. 6(4), pages 119-144, Fall.
  15. Fiorentini, Gabriele & Calzolari, Giorgio & Panattoni, Lorenzo, 1996. "Analytic Derivatives and the Computation of GARCH Estimates," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 11(4), pages 399-417, July-Aug..
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  17. Chung, Chae-Shick & Tauchen, George, 2001. "Testing Target-Zone Models Using Efficient Method of Moments," Journal of Business & Economic Statistics, American Statistical Association, vol. 19(3), pages 255-69, July.
  18. Forbes, C.S. & Kofman, P., 2000. "Bayesian Soft Target Zones," Monash Econometrics and Business Statistics Working Papers 4/00, Monash University, Department of Econometrics and Business Statistics.
  19. Catherine S. Forbes & Paul Kofman, 2000. "Bayesian Target Zones," Research Paper Series 32, Quantitative Finance Research Centre, University of Technology, Sydney.
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  21. Lin, Chien-Fu Jeff & Terasvirta, Timo, 1994. "Testing the constancy of regression parameters against continuous structural change," Journal of Econometrics, Elsevier, vol. 62(2), pages 211-228, June.
  22. Krugman, Paul R, 1991. "Target Zones and Exchange Rate Dynamics," The Quarterly Journal of Economics, MIT Press, vol. 106(3), pages 669-82, August.
  23. Paul Krugman & Marcus Miller, 1992. "Exchange Rate Targets and Currency Bands," NBER Books, National Bureau of Economic Research, Inc, number krug92-1.
  24. Brooks, Chris & Reveiz, Alejandro H., 2002. "A model for exchange rates with crawling bands--an application to the Colombian peso," Journal of Economics and Business, Elsevier, vol. 54(5), pages 483-503.
  25. Wooldridge, Jeffrey M., 1990. "A Unified Approach to Robust, Regression-Based Specification Tests," Econometric Theory, Cambridge University Press, vol. 6(01), pages 17-43, March.
  26. Lindberg, Hans & Soderlind, Paul, 1994. " Intervention Policy and Mean Reversion in Exchange Rate Target Zones: The Swedish Case," Scandinavian Journal of Economics, Wiley Blackwell, vol. 96(4), pages 499-513.
  27. Gabriela Mundaca, B., 2000. "The effect of interventions on realignment probabilities," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 10(3-4), pages 323-347, December.
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