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Agents' Rationality and the CHF/USD Exchange Rate, Part I

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  • Hermann Garbers
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    Abstract

    The analysis of monthly exchange rates is carried out using a model of McCallum, which is based on the concept of Rational Expectations. Applying the model to the CHF/USD exchange rate starting a misspecification analysis, the RE component appears to be a weak point of the model. The theory of rational beliefs of M. Kurz generalizes the RE concept introducing special consideration of Data Generating Processes (DGP). We find, however, some evidence speaking against the rational belief approach (with respect to the CHF/USD exchange rate) which is related to regime switchings and the presence of unobserved variables in the data-generating process. It appears that the rationality of economic agents depends on complex cognitive processes not discussed by Kurz, but taken into account in a ''story'' by Paul De Grauwe. This story will be supplemented in Part II of the paper in order to eliminate the RE component and to proceed with the misspecification analysis of McCallum's model.

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    Paper provided by Institute for Empirical Research in Economics - University of Zurich in its series IEW - Working Papers with number 163.

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    Handle: RePEc:zur:iewwpx:163

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    Keywords: General Economics and Methodology;

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    1. Bennett T. McCallum, 1994. "A Reconsideration of the Uncovered Interest Parity Relationship," NBER Working Papers 4113, National Bureau of Economic Research, Inc.
    2. Mordecai Kurz, . "Endogenous Uncertainty: A Unified View of Market Volatility," Working Papers 98013, Stanford University, Department of Economics.
    3. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
    4. Nelson, Charles R. & Plosser, Charles I., 1982. "Trends and random walks in macroeconmic time series : Some evidence and implications," Journal of Monetary Economics, Elsevier, vol. 10(2), pages 139-162.
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