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Private Information and a Macro Model of Exchange Rates: Evidence from a Novel Data Set

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  • Menzie D. Chinn
  • Michael J. Moore

Abstract

We propose an exchange rate model which is a hybrid of the conventional specification with monetary fundamentals and the Evans-Lyons microstructure approach. It argues that the failure of the monetary model is principally due to private preference shocks which render the demand for money unstable. These shocks to liquidity preference are revealed through order flow. We estimate a model augmented with order flow variables, using a unique data set: almost 100 monthly observations on inter-dealer order flow on dollar/euro and dollar/yen. The augmented macroeconomic, or "hybrid", model exhibits out of sample forecasting improvement over the basic macroeconomic and random walk specifications.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 14175.

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Date of creation: Jul 2008
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Handle: RePEc:nbr:nberwo:14175

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  1. Helene Rey & Pierre Olivier Gourinchas, 2005. "International Financial Adjustment," 2005 Meeting Papers 169, Society for Economic Dynamics.
  2. Parlour, Christine A, 1998. "Price Dynamics in Limit Order Markets," Review of Financial Studies, Society for Financial Studies, vol. 11(4), pages 789-816.
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  7. Cheung, Yin-Wong & Chinn, Menzie David & Garcia Pascual, Antonio, 2003. "Empirical Exchange Rate Models of the Nineties: Are Any Fit to Survive?," Santa Cruz Department of Economics, Working Paper Series qt12z9x4c5, Department of Economics, UC Santa Cruz.
  8. Berger, David W. & Chaboud, Alain P. & Chernenko, Sergey V. & Howorka, Edward & Wright, Jonathan H., 2008. "Order flow and exchange rate dynamics in electronic brokerage system data," Journal of International Economics, Elsevier, vol. 75(1), pages 93-109, May.
  9. Yin-Wong Cheung & Menzie D. Chinn & Antonio I. Garcia Pascual, 2003. "What Do We Know about Recent Exchange Rate Models? In-Sample Fit and Out-of-Sample Performance Evaluated," CESifo Working Paper Series 902, CESifo Group Munich.
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Cited by:
  1. Francis Breedon & Angelo Ranaldo, 2012. "Intraday Patterns in FX Returns and Order Flow," Working Papers 694, Queen Mary, University of London, School of Economics and Finance.
  2. Marcos dal Bianco & Maximo Camacho & Gabriel Perez-Quiros, 2012. "Short-run forecasting of the euro-dollar exchange rate with economic fundamentals," Banco de Espa�a Working Papers 1203, Banco de Espa�a.
  3. Jacob Gyntelberg & Mico Loretan & Tientip Subhanij & Eric Chan, 2009. "Private information, stock markets, and exchange rates," Working Papers 2009-07, Economic Research Department, Bank of Thailand.
  4. Dagfinn Rime & Lucio Sarno & Elvira Sojli, 2007. "Exchange rate forecasting, order flow and macroeconomic information," Working Paper 2007/02, Norges Bank.
  5. Breedon, Francis & Rime, Dagfinn & Vitale, Paolo, 2010. "A Transaction Data Study of the Forward Bias Puzzle," CEPR Discussion Papers 7791, C.E.P.R. Discussion Papers.
  6. John A. Carlson & Christian M. Dahl & Carol L. Osler, 2008. "Short-run Exchange-rate Dynamics: Theory And Evidence," Working Papers 39, Brandeis University, Department of Economics and International Businesss School.

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