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The Exchange Rate Forecasting Puzzle

  • Francis Vitek

    (University of British Columbia)

We survey and update the empirical literature concerning the predictability of nominal exchange rates using structural macroeconomic models over the recent floating exchange rate period. In particular, we consider both flexible and sticky price versions of the monetary model of nominal exchange rate determination. In agreement with the existing empirical literature, we find that nominal exchange rate movements are difficult to forecast, with a random walk generally dominating the monetary model in terms of predictive accuracy conditional on observed monetary fundamentals at all horizons.

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File URL: http://128.118.178.162/eps/if/papers/0509/0509005.pdf
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Paper provided by EconWPA in its series International Finance with number 0509005.

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Length: 17 pages
Date of creation: 14 Sep 2005
Date of revision:
Handle: RePEc:wpa:wuwpif:0509005
Note: Type of Document - pdf; pages: 17
Contact details of provider: Web page: http://128.118.178.162

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  1. Obstfeld, Maurice & Rogoff, Kenneth, 1995. "Exchange Rate Dynamics Redux," CEPR Discussion Papers 1131, C.E.P.R. Discussion Papers.
  2. Giancarlo Corsetti & Paolo Pesenti, 2001. "International Dimensions of Optimal Monetary Policy," NBER Working Papers 8230, National Bureau of Economic Research, Inc.
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  5. Buiter, Willem H. & Miller, Marcus, 1982. "Real exchange rate overshooting and the output cost of bringing down inflation," European Economic Review, Elsevier, vol. 18(1), pages 85-123.
  6. Clarida, Richard & Galí, Jordi & Gertler, Mark, 2002. "A Simple Framework for International Monetary Policy Analysis," CEPR Discussion Papers 3355, C.E.P.R. Discussion Papers.
  7. Meese, Richard A & Rose, Andrew K, 1990. "Nonlinear, Nonparametric, Nonessential Exchange Rate Estimation," American Economic Review, American Economic Association, vol. 80(2), pages 192-96, May.
  8. Canova, Fabio, 1993. "Modelling and forecasting exchange rates with a Bayesian time-varying coefficient model," Journal of Economic Dynamics and Control, Elsevier, vol. 17(1-2), pages 233-261.
  9. Garry J. Schinasi & P.A.V.B. Swamy, 1987. "The out-of-sample forecasting performance of exchange rate models when coefficients are allowed to change," International Finance Discussion Papers 301, Board of Governors of the Federal Reserve System (U.S.).
  10. Frenkel, Jacob A, 1976. " A Monetary Approach to the Exchange Rate: Doctrinal Aspects and Empirical Evidence," Scandinavian Journal of Economics, Wiley Blackwell, vol. 78(2), pages 200-224.
  11. McCallum, Bennett T & Nelson, Edward, 2001. "Monetary Policy for an Open Economy: An Alternative Framework with Optimizing Agents and Sticky Prices," CEPR Discussion Papers 2756, C.E.P.R. Discussion Papers.
  12. Richard Meese & Kenneth Rogoff & Jacob Frenkel, . "The Out-of-Sample Failure of Empirical Exchange Rate Models: Sampling Error or Misspecification?," Working Paper 32044, Harvard University OpenScholar.
  13. David Backus, 1984. "Empirical Models of the Exchange Rate: Separating the Wheat from the Chaff," Canadian Journal of Economics, Canadian Economics Association, vol. 17(4), pages 824-46, November.
  14. Christopher J. Neely & Lucio Sarno, 2002. "How well do monetary fundamentals forecast exchange rates?," Working Papers 2002-007, Federal Reserve Bank of St. Louis.
  15. Frankel, Jeffrey A, 1979. "On the Mark: A Theory of Floating Exchange Rates Based on Real Interest Differentials," American Economic Review, American Economic Association, vol. 69(4), pages 610-22, September.
  16. Monacelli, Tommaso, 2003. "Monetary policy in a low pass-through environment," Working Paper Series 0227, European Central Bank.
  17. Mark Gertler & Simon Gilchrist & Fabio M. Natalucci, 2003. "External constraints on monetary policy and the financial accelerator," BIS Working Papers 139, Bank for International Settlements.
  18. 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.
  19. Nelson Mark & Donggyu Sul, 1998. "Norminal Exchange Rates and Monetary Fundamentals: Evidence from a Small Post-Bretton Woods Panel," Working Papers 98-19, Ohio State University, Department of Economics.
  20. Adolfson, Malin, 2001. "Monetary Policy with Incomplete Exchange Rate Pass-Through," SSE/EFI Working Paper Series in Economics and Finance 476, Stockholm School of Economics.
  21. Wolff, Christian C. P., 1988. "Exchange rates, innovations and forecasting," Journal of International Money and Finance, Elsevier, vol. 7(1), pages 49-61, March.
  22. Mark, Nelson C, 1995. "Exchange Rates and Fundamentals: Evidence on Long-Horizon Predictability," American Economic Review, American Economic Association, vol. 85(1), pages 201-18, March.
  23. Mussa, Michael, 1979. "Empirical regularities in the behavior of exchange rates and theories of the foreign exchange market," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 11(1), pages 9-57, January.
  24. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-76, December.
  25. Groen, Jan J. J., 2000. "The monetary exchange rate model as a long-run phenomenon," Journal of International Economics, Elsevier, vol. 52(2), pages 299-319, December.
  26. 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.
  27. Wolff, Christian C P, 1987. "Time-Varying Parameters and the Out-of-Sample Forecasting Performance of Structural Exchange Rate Models," Journal of Business & Economic Statistics, American Statistical Association, vol. 5(1), pages 87-97, January.
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