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Chartism and exchange rate volatility

  • Mikael Bask

    (Monetary Policy and Research Department, Bank of Finland, Finland)

The purpose of this paper is to implement theoretically, the observation that the relative importance of fundamental versus technical analysis in the foreign exchange market depends on the time horizon in currency trade. For shorter time horizons, more weight is placed on technical analysis, while more weight is placed on fundamental analysis for longer horizons. The theoretical framework is the Dornbusch overshooting model, where moving averages is the technical trading technique used by the chartists. The perfect foresight path near long-run equilibrium is derived, and it is shown that the magnitude of exchange rate overshooting is larger than in the Dornbusch model. Specifically, the extent of overshooting depends inversely on the time horizon in currency trade. How changes in the model's structural parameters endogenously affect this time horizon and the magnitude of overshooting along the perfect foresight path are also derived. Copyright © 2007 John Wiley & Sons, Ltd.

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File URL: http://hdl.handle.net/10.1002/ijfe.315
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Article provided by John Wiley & Sons, Ltd. in its journal International Journal of Finance & Economics.

Volume (Year): 12 (2007)
Issue (Month): 3 ()
Pages: 301-316

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Handle: RePEc:ijf:ijfiec:v:12:y:2007:i:3:p:301-316
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  1. Flood, Robert P & Rose, Andrew K, 1998. "Understanding Exchange Rate Volatility Without the Contrivance of Macroeconomics," CEPR Discussion Papers 1944, C.E.P.R. Discussion Papers.
  2. Dixon, Huw D, 1999. "Controversy: Exchange Rates and Fundamentals," Economic Journal, Royal Economic Society, vol. 109(459), pages F652-54, November.
  3. 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.
  4. Lui, Yu-Hon & Mole, David, 1998. "The use of fundamental and technical analyses by foreign exchange dealers: Hong Kong evidence," Journal of International Money and Finance, Elsevier, vol. 17(3), pages 535-545, June.
  5. Christopher J. Neely, 1997. "Technical analysis in the foreign exchange market: a layman's guide," Review, Federal Reserve Bank of St. Louis, issue Sep, pages 23-38.
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