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Using a New Open Economy Macroeconomics model to make real nominal exchange rate forecasts

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  • Sellin, Peter

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    (Monetary Policy Department, Central Bank of Sweden)

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    Abstract

    In this paper we undertake an out-of-sample evaluation of the ability of a model to forecast the Swedish Krona’s real and nominal effective exchange rate, using a cointegrating relation between the real exchange rate, relative output, terms of trade and net foreign assets (or alternatively the trade balance). The cointegrating relation is derived from a theoretical model of the New Open Economy Macroeconomics type. The forecasting performance of our estimated vector error correction model is quite good once the dynamics of the model have been augmented with an interest rate differential.

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    File URL: http://www.riksbank.se/upload/Dokument_riksbank/Kat_publicerat/WorkingPapers/2007/wp213.pdf
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    Bibliographic Info

    Paper provided by Sveriges Riksbank (Central Bank of Sweden) in its series Working Paper Series with number 213.

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    Length: 32 pages
    Date of creation: 01 Oct 2007
    Date of revision:
    Handle: RePEc:hhs:rbnkwp:0213

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    Postal: Sveriges Riksbank, SE-103 37 Stockholm, Sweden
    Phone: 08 - 787 00 00
    Fax: 08-21 05 31
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    Web page: http://www.riksbank.com/
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    Related research

    Keywords: New Open Economy Macroeconomics; real exchange rate; nominal exchange rate; forecasting;

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    1. Kristian Nilsson, 2004. "Do Fundamentals Explain the Behaviour of the Swedish Real Effective Exchange Rate?," Scandinavian Journal of Economics, Wiley Blackwell, vol. 106(4), pages 603-622, December.
    2. Gian-Maria Milesi-Ferretti & Philip R. Lane, 2000. "The Transfer Problem Revisited: Net Foreign Assets and Real Exchange Rates," IMF Working Papers 00/123, International Monetary Fund.
    3. Mendoza, Enrique G, 1995. "The Terms of Trade, the Real Exchange Rate, and Economic Fluctuations," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 36(1), pages 101-37, February.
    4. Obstfeld, Maurice & Rogoff, Kenneth S, 2005. "The Unsustainable US Current Account Position Revisited," Center for International and Development Economics Research, Working Paper Series qt4f63x50j, Center for International and Development Economics Research, Institute for Business and Economic Research, UC Berkeley.
    5. Jesper Lindé, 2004. "Swedish Postwar Business Cycles: Generated Abroad or at Home?," Scandinavian Journal of Economics, Wiley Blackwell, vol. 106(4), pages 623-645, December.
    6. Philip R. Lane & Gian-Maria Milesi-Ferretti, 2002. "External Wealth, the Trade Balance, and the Real Exchange Rate," IMF Working Papers 02/51, International Monetary Fund.
    7. Adolfson, Malin & Laseen, Stefan & Linde, Jesper & Villani, Mattias, 2007. "Bayesian estimation of an open economy DSGE model with incomplete pass-through," Journal of International Economics, Elsevier, vol. 72(2), pages 481-511, July.
    8. Annika Alexius & Jonny Nilsson, 2000. "Real Exchange Rates and Fundamentals: Evidence from 15 OECD Countries," Open Economies Review, Springer, vol. 11(4), pages 383-397, October.
    9. Todd E. Clark & Kenneth D. West, 2005. "Approximately normal tests for equal predictive accuracy in nested models," Research Working Paper RWP 05-05, Federal Reserve Bank of Kansas City.
    10. Menzie D. Chinn & Ron Alquist, 2006. "Conventional and Unconventional Approaches to Exchange Rate Modeling and Assessment," NBER Working Papers 12481, National Bureau of Economic Research, Inc.
    11. Lindblad, Hans & Sellin, Peter, 2003. "The Equilibrium Rate of Unemployment and the Real Exchange Rate: An Unobserved Components System Approach," Working Paper Series 152, Sveriges Riksbank (Central Bank of Sweden).
    12. Meese, Richard A. & Rogoff, Kenneth, 1983. "Empirical exchange rate models of the seventies : Do they fit out of sample?," Journal of International Economics, Elsevier, vol. 14(1-2), pages 3-24, February.
    13. Philip Lane, 2007. "The Swedish external position and the krona," International Economics and Economic Policy, Springer, vol. 4(3), pages 263-279, November.
    14. Henrik Hansen & Søren Johansen, 1999. "Some tests for parameter constancy in cointegrated VAR-models," Econometrics Journal, Royal Economic Society, vol. 2(2), pages 306-333.
    15. Clark, Todd E. & West, Kenneth D., 2006. "Using out-of-sample mean squared prediction errors to test the martingale difference hypothesis," Journal of Econometrics, Elsevier, vol. 135(1-2), pages 155-186.
    16. West, Kenneth D., 2006. "Forecast Evaluation," Handbook of Economic Forecasting, Elsevier.
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