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Order Flow and Exchange Rate Dynamics in Brazil

  • Otavio De Medeiros

    (Universidade de Brasilia, Brazil)

The paper presents results of empirical tests with hybrid nominal exchange rate models for the Brazilian foreign exchange market, using macroeconomic and market microstructure variables. The basic model was originally proposed and tested in the German (DM/US$) and the Japanese (¥/US$) foreign exchange markets by Evans and Lyons (2002). We applied the model to the Brazilian foreign exchange market (R$/US$) and obtained significant and correctly signaled coefficients, but the regressions showed low R2s, suggesting the omission of relevant variable(s). The inclusion of an additional variable representing a country-risk premium results significant and increases R2. Estimation by GARCH further improves previous results obtained by OLS. The upshot indicates that the route proposed by Evans and Lyons is a promising explanation for the R$/US$ exchange rate, but it seems the model specification needs further improvement.

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Paper provided by EconWPA in its series Finance with number 0503019.

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Length: 10 pages
Date of creation: 16 Mar 2005
Date of revision:
Handle: RePEc:wpa:wuwpfi:0503019
Note: Type of Document - pdf; pages: 10
Contact details of provider: Web page: http://econwpa.repec.org

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  1. Frédéric Karamé & Lise Patureau & Thepthida Sopraseuth, 2002. "Can We Beat the Random Walk Forecasts of Out-of-Sample Exchange Rates? A Structural Approach," Computing in Economics and Finance 2002 233, Society for Computational Economics.
  2. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December.
  3. Christensen, Michael, 2000. "Uncovered Interest Parity and Policy Behavior New Evidence," Finance Working Papers 00-2, University of Aarhus, Aarhus School of Business, Department of Business Studies.
  4. Yin-Wong Cheung & Menzie D. Chinn & Antonio Garcia Pascual, 2002. "Empirical Exchange Rate Models of the Nineties: Are Any Fit to Survive?," NBER Working Papers 9393, National Bureau of Economic Research, Inc.
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  8. Mark P. Taylor & Ronald MacDonald, 1991. "Exchange Rate Economics: A Survey," IMF Working Papers 91/62, International Monetary Fund.
  9. Frankel, Jeff & Froot, Ken, 1986. "Using Survey Data to Test Standard Propositions Regarding Exchange Rate Expectations," Department of Economics, Working Paper Series qt1972q8wm, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
  10. Mark P. Taylor, 1995. "The Economics of Exchange Rates," Journal of Economic Literature, American Economic Association, vol. 33(1), pages 13-47, March.
  11. Flood, Robert P & Rose, Andrew K, 1993. "Fixing Exchange Rates: A Virtual Quest for Fundamentals," CEPR Discussion Papers 838, C.E.P.R. Discussion Papers.
  12. Martin D. D. Evans & Richard K. Lyons, 2002. "Order Flow and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 110(1), pages 170-180, February.
  13. Christensen, Michael, 2000. "Uncovered interest parity and policy behavior: new evidence," Economics Letters, Elsevier, vol. 69(1), pages 81-87, October.
  14. Charles Engel & Kenneth D. West, 2005. "Exchange Rates and Fundamentals," Journal of Political Economy, University of Chicago Press, vol. 113(3), pages 485-517, June.
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  16. 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.
  17. Frankel, Jeffrey A. & Rose, Andrew K., 1995. "Empirical research on nominal exchange rates," Handbook of International Economics, in: G. M. Grossman & K. Rogoff (ed.), Handbook of International Economics, edition 1, volume 3, chapter 33, pages 1689-1729 Elsevier.
  18. Dominguez, Kathryn M., 1986. "Are foreign exchange forecasts rational? : New evidence from survey data," Economics Letters, Elsevier, vol. 21(3), pages 277-281.
  19. Eaton, Jonathan & Turnovsky, Stephen J, 1983. "Covered Interest Parity, Uncovered Interest Parity and Exchange Rate Dynamics," Economic Journal, Royal Economic Society, vol. 93(371), pages 555-75, September.
  20. Jeffrey A. Frankel & Andrew K. Rose, 1994. "A Survey of Empirical Research on Nominal Exchange Rates," NBER Working Papers 4865, National Bureau of Economic Research, Inc.
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  22. Flood, Robert P & Hodrick, Robert J, 1990. "On Testing for Speculative Bubbles," Journal of Economic Perspectives, American Economic Association, vol. 4(2), pages 85-101, Spring.
  23. Evans, George W, 1986. "A Test for Speculative Bubbles in the Sterling-Dollar Exchange Rate: 1981-84," American Economic Review, American Economic Association, vol. 76(4), pages 621-36, September.
  24. Thomas M Fullerton Jr & Miwa Hattori & Cuauhtemoc Calderon, 2004. "Error Correction Exchange Rate Modeling Evidence for Mexico," International Finance 0406001, EconWPA.
  25. Meese, Richard A, 1986. "Testing for Bubbles in Exchange Markets: A Case of Sparkling Rates?," Journal of Political Economy, University of Chicago Press, vol. 94(2), pages 345-73, April.
  26. Guy Meredith & Menzie D. Chinn, 1998. "Long-Horizon Uncovered Interest Rate Parity," NBER Working Papers 6797, National Bureau of Economic Research, Inc.
  27. Daniel L. Thornton, 1989. "Tests of covered interest rate parity," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 55-66.
  28. Meese, Richard, 1990. "Currency Fluctuations in the Post-Bretton Woods Era," Journal of Economic Perspectives, American Economic Association, vol. 4(1), pages 117-34, Winter.
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