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Forecasting the Dollar/Euro Exchange Rate: Can International Parities Help?

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  • Simón Sosvilla-Rivero
  • Emma García

Abstract

In this paper we assess the empirical relevance of an expectations version of Purchasing Power Parity in forecasting the Dollar/Euro exchange rate. This version is based on the Uncovered Interest Rate Parity and tbe Fisher Hypothesis, and it makes use of the differentials of inflation expectations derived from inflation-indexed bonds for the Euro area and the USA. Using the longest available daily data for both the Dollar/Euro exchange rate and for the inflation expectations, our results suggest that, with few exceptions, our predictors behave significantly better than a random walk in forecasts up to five days, both in terms of prediction errors and in directional forecast.

Suggested Citation

  • Simón Sosvilla-Rivero & Emma García, "undated". "Forecasting the Dollar/Euro Exchange Rate: Can International Parities Help?," Working Papers 2003-15, FEDEA.
  • Handle: RePEc:fda:fdaddt:2003-15
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    1. Diebold, Francis X & Mariano, Roberto S, 2002. "Comparing Predictive Accuracy," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(1), pages 134-144, January.
    2. Jeffrey M. Wrase, 1997. "Inflation-indexed bonds: how do they work?," Business Review, Federal Reserve Bank of Philadelphia, issue Jul, pages 3-16.
    3. Cheung, Yin-Wong & Chinn, Menzie D. & Pascual, Antonio Garcia, 2005. "Empirical exchange rate models of the nineties: Are any fit to survive?," Journal of International Money and Finance, Elsevier, vol. 24(7), pages 1150-1175, November.
    4. 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.
    5. F. FernAndez-RodrIguez & S. Sosvilla-Rivero & J. Andrada-FElix, 2003. "Technical analysis in foreign exchange markets: evidence from the EMS," Applied Financial Economics, Taylor & Francis Journals, vol. 13(2), pages 113-122.
    6. Boothe, Paul & Glassman, Debra, 1987. "Comparing exchange rate forecasting models : Accuracy versus profitability," International Journal of Forecasting, Elsevier, vol. 3(1), pages 65-79.
    7. Chinn, Menzie D. & Meese, Richard A., 1995. "Banking on currency forecasts: How predictable is change in money?," Journal of International Economics, Elsevier, vol. 38(1-2), pages 161-178, February.
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