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A Behavioral Macroeconomic Model of Exchange Rate Fluctuations with Complex Market Expectations Formation

  • Peter Flaschel
  • Florian Hartmann

    ()

  • Chris Malikane
  • Christian R. Proaño

The paper investigates the emergence of complex market expectations (opinion dynamics) around nominal exchange rate adjustments using a macro-financial model of a small open economy featuring heterogeneous expectation formation (chartists and fundamentalists) and gradual adjustment processes in real and also to a certain degree in financial markets. The model shows among other things the mechanisms through which the first type of agents tends to destabilise the economy. Global stability can be ensured if opinions turn to fundamentalist behaviour far off the steady state. This interaction of expectations and population dynamics is bounding the – due to chartist behavior – potentially explosive real-financial market interactions, but can enforce irregular behavior within these bounds. The size of output and exchange rate fluctuations can be dampened by adding suitable policy measures to the dynamics of the private sector.

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File URL: http://web.fb9.uni-osnabrueck.de/repec/iee/wpaper/13909374_WP_98.pdf
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Paper provided by Institute of Empirical Economic Research in its series Working Papers with number 98.

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Length: 26
Date of creation: 29 Jan 2014
Date of revision: 29 Jan 2014
Handle: RePEc:iee:wpaper:wp0098
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  1. Lukas Menkhoff & Rafael R. Rebitzky & Michael Schröder, 2008. "Heterogeneity in Exchange Rate Expectations: Evidence on the Chartist-Fundamentalist Approach," CESifo Working Paper Series 2502, CESifo Group Munich.
  2. Carl Chiarella & Roberto Dieci & Laura Gardini & Lucia Sbragia, 2008. "A Model of Financial Market Dynamics with Heterogeneous Beliefs and State-Dependent Confidence," Computational Economics, Society for Computational Economics, vol. 32(1), pages 55-72, September.
  3. Carl Chiarella & Xue-Zhong He & Min Zheng, 2013. "Heterogeneous expectations and exchange rate dynamics," The European Journal of Finance, Taylor & Francis Journals, vol. 19(5), pages 392-419, May.
  4. James Tobin, 1996. "A currency transactions tax, why and how," Open Economies Review, Springer, vol. 7(1), pages 493-499, March.
  5. Matthieu Charpe & Peter Flaschel & Florian Hartmann & Roberto Veneziani, 2012. "Towards Keynesian DSGD (isequilibrium) Modelling: Real-Financial Market Interactions with Heterogeneous Expectations Dynamics," IMK Working Paper 93-2012, IMK at the Hans Boeckler Foundation, Macroeconomic Policy Institute.
  6. Chiarella, Carl & Flaschel, Peter & Wells, Graeme, 2003. "The Dynamics Of Keynesian Monetary Growth," Macroeconomic Dynamics, Cambridge University Press, vol. 7(03), pages 473-475, June.
  7. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 2009. "New Keynesian Models: Not Yet Useful for Policy Analysis," American Economic Journal: Macroeconomics, American Economic Association, vol. 1(1), pages 242-66, January.
  8. David Colander & Hans Föllmer & Armin Haas & Michael Goldberg & Katarina Juselius & Alan Kirman & Thomas Lux & Brigitte Sloth, 2009. "The Financial Crisis and the Systemic Failure of Academic Economics," Kiel Working Papers 1489, Kiel Institute for the World Economy.
  9. Cees Diks & Cars Hommes & Valentyn Panchenko & Roy Weide, 2008. "E&F Chaos: A User Friendly Software Package for Nonlinear Economic Dynamics," Computational Economics, Society for Computational Economics, vol. 32(1), pages 221-244, September.
  10. James Tobin, 1978. "A Proposal for International Monetary Reform," Eastern Economic Journal, Eastern Economic Association, vol. 4(3-4), pages 153-159, Jul/Oct.
  11. Proaño, Christian R., 2011. "Exchange rate determination, macroeconomic dynamics and stability under heterogeneous behavioral FX expectations," Journal of Economic Behavior & Organization, Elsevier, vol. 77(2), pages 177-188, February.
  12. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December.
  13. Assenza, T. & Brock, W.A. & Hommes, C.H., 2012. "Animal Spirits, Heterogeneous Expectations and the Amplification and Duration of Crises," CeNDEF Working Papers 12-07, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance.
  14. Florian Hartmann & Peter Flaschel, 2013. "Financial Markets, Banking and the Design of Monetary Policy: A Stable Baseline Scenario," Economies, MDPI, Open Access Journal, vol. 2(1), pages 1-19, December.
  15. Charpe, Matthieu & Flaschel, Peter & Hartmann, Florian & Proaño, Christian, 2011. "Stabilizing an unstable economy: Fiscal and monetary policy, stocks, and the term structure of interest rates," Economic Modelling, Elsevier, vol. 28(5), pages 2129-2136, September.
  16. Lux, Thomas, 1995. "Herd Behaviour, Bubbles and Crashes," Economic Journal, Royal Economic Society, vol. 105(431), pages 881-96, July.
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