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Expected and predicted realignments: the FF/DM exchange rate during the EMS

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  • Andrew K. Rose
  • Lars E.O. Svensson

Abstract

An empirical model of time-varying realignment risk in an exchange rate target zone is developed. Expected rates of devaluation are estimated as the difference between interest rate differentials and estimated expected rates of depreciation within the exchange rate band, using French Franc/Deutsche Mark data during the European Monetary System. The behavior of estimated expected rates of depreciation accord well with the theoretical model of Bertola-Svensson (1990). We are also able to predict actual realignments with some success.

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Bibliographic Info

Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 395.

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Date of creation: 1991
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Handle: RePEc:fip:fedgif:395

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Keywords: European Monetary System (Organization) ; Foreign exchange rates;

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References

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  1. Bertola, Giuseppe & Svensson, Lars E O, 1993. "Stochastic Devaluation Risk and the Empirical Fit of Target-Zone Models," Review of Economic Studies, Wiley Blackwell, vol. 60(3), pages 689-712, July.
  2. Hansen, Lars Peter & Hodrick, Robert J, 1980. "Forward Exchange Rates as Optimal Predictors of Future Spot Rates: An Econometric Analysis," Journal of Political Economy, University of Chicago Press, vol. 88(5), pages 829-53, October.
  3. Pagan, Adrian, 1984. "Econometric Issues in the Analysis of Regressions with Generated Regressors," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 25(1), pages 221-47, February.
  4. Donald W.K. Andrews & Christopher J. Monahan, 1990. "An Improved Heteroskedasticity and Autocorrelation Consistent Covariance Matrix Estimator," Cowles Foundation Discussion Papers 942, Cowles Foundation for Research in Economics, Yale University.
  5. Meese, Richard A & Rose, Andrew K, 1990. "Nonlinear, Nonparametric, Nonessential Exchange Rate Estimation," American Economic Review, American Economic Association, vol. 80(2), pages 192-96, May.
  6. Bertola, Giuseppe & Caballero, Ricardo J, 1992. "Target Zones and Realignments," American Economic Review, American Economic Association, vol. 82(3), pages 520-36, June.
  7. Svensson, Lars E. O., 1991. "The term structure of interest rate differentials in a target zone : Theory and Swedish data," Journal of Monetary Economics, Elsevier, vol. 28(1), pages 87-116, August.
  8. Donald J. Mathieson & Robert P. Flood & Andrew K. Rose, 1991. "An Empirical Exploration of Exchange Rate Target-Zones," IMF Working Papers 91/15, International Monetary Fund.
  9. Alberto Giovannini, 1990. "European Monetary Reform: Progress and Prospects," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 21(2), pages 217-292.
  10. Svensson, Lars E O, 1991. "The Foreign Exchange Risk Premium in a Target Zone with Devaluation Risk," CEPR Discussion Papers 494, C.E.P.R. Discussion Papers.
  11. Lars E.O. Svensson, 1990. "The Simplest Test of Target Zone Credibility," NBER Working Papers 3394, National Bureau of Economic Research, Inc.
  12. Bartolini, Leonardo & Bodnar, Gordon M., 1992. "Target zones and forward rates in a model with repeated realignments," Journal of Monetary Economics, Elsevier, vol. 30(3), pages 373-408, December.
  13. repec:fth:coluec:460 is not listed on IDEAS
  14. Bodnar, G., 1991. "Target Zones and Euro-Rates: A Model of Eurocurrency Interest Rate Differentials in the European Monetary System," Papers 91-03, Rochester, Business - General.
  15. Froot, Kenneth A & Thaler, Richard H, 1990. "Foreign Exchange," Journal of Economic Perspectives, American Economic Association, vol. 4(3), pages 179-92, Summer.
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