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The importance of interest rates for forecasting the exchange rate

✍ Scribed by Hilde C. Bjørnland; Håvard Hungnes

Publisher
John Wiley and Sons
Year
2006
Tongue
English
Weight
160 KB
Volume
25
Category
Article
ISSN
0277-6693

No coin nor oath required. For personal study only.

✦ Synopsis

Abstract

This study compares the forecasting performance of a structural exchange rate model that combines the purchasing power parity condition with the interest rate differential in the long run, with some alternative exchange rate models. The analysis is applied to the Norwegian exchange rate. The long‐run equilibrium relationship is embedded in a parsimonious representation for the exchange rate. The structural exchange rate representation is stable over the sample and outperforms a random walk in an out‐of‐sample forecasting exercise at one to four horizons. Ignoring the interest rate differential in the long run, however, the structural model no longer outperforms a random walk. Copyright © 2006 John Wiley _ Sons, Ltd.

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