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Exchange Rates in Search of Fundamentals: The Case of the Euro-Dollar Rate

  • De Grauwe, Paul
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    The decline of the euro against the dollar during 1999-2000 was mostly unrelated to observable news about the underlying fundamentals. This corroborates a general finding from the empirical literature testing the traditional exchange rate models, i.e. that exchange rate movements are disconnected from the underlying fundamentals. We formulate an hypothesis allowing us to understand this phenomenon. The core of this hypothesis is that movements in the exchange rates ‘anchor’ agents’ beliefs and lead them to search for fundamentals that will justify these beliefs. We also analyse the implications of this view for the transmission of monetary shocks.

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    Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2575.

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    Date of creation: Oct 2000
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    Handle: RePEc:cpr:ceprdp:2575
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    1. Grilli, Vittorio & Roubini, Nouriel, 1996. "Liquidity models in open economies: Theory and empirical evidence," European Economic Review, Elsevier, vol. 40(3-5), pages 847-859, April.
    2. Lars E.O. Svensson, 1998. "Inflation Targeting as a Monetary Policy Rule," NBER Working Papers 6790, National Bureau of Economic Research, Inc.
    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. Maurice Obstfeld & Kenneth Rogoff, 2001. "The Six Major Puzzles in International Macroeconomics: Is There a Common Cause?," NBER Chapters, in: NBER Macroeconomics Annual 2000, Volume 15, pages 339-412 National Bureau of Economic Research, Inc.
    5. Lawrence J. Christiano & Martin Eichenbaum & Charles L. Evans, 1998. "Monetary Policy Shocks: What Have We Learned and to What End?," NBER Working Papers 6400, National Bureau of Economic Research, Inc.
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