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A New Micro Model of Exchange Rate Dynamics

Author

Listed:
  • Rich Lyons
  • Martin Evans

Abstract

We present a new class of general equilibrium model to study exchange rate dynamics. Our model synthesizes the new micro and macro approaches by incorporating the micro foundations of asset market trading into a dynamic, two country general equilibrium setting. We use the model to study how dispersed information from the real economy is aggregated by trading, and embedded into exchange rates and interest rates. The presence of dispersed information generates a new factor that contributes to the foreign exchange risk premium and a new source of exchange rate dynamics. Our analysis also provides a general equilibrium explanation for the role of order flow in exchange rate determination.

Suggested Citation

  • Rich Lyons & Martin Evans, 2004. "A New Micro Model of Exchange Rate Dynamics," Econometric Society 2004 North American Winter Meetings 622, Econometric Society.
    • Handle: RePEc:ecm:nawm04:622
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    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F42 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - International Policy Coordination and Transmission

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