The Monetary Approach to the Exchange Rate: Rational Expectations, Long-Run Equilibrium and Forecasting

Author/Editor:

Ronald MacDonald ; Mark P. Taylor

Publication Date:

May 1, 1992

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary:

We re-examine the monetary approach to the exchange rate from a number of perspectives, using monthly data on the deutschemark-dollar exchange rate. Using the Campbell-Shiller technique for testing present value models, we reject the restrictions imposed upon the data by the forward-looking rational expectations monetary model. We demonstrate, however, that the monetary model is validated as a long-run equilibrium condition. Moreover, imposing the long-run monetary model restrictions in a dynamic error correction framework leads to exchange rate forecasts which are superior to those generated by a random walk forecasting model.

Series:

Working Paper No. 1992/034

Subject:

Econometric analysis Exchange rate assessments Exchange rate modelling Exchange rates Foreign exchange National accounts Personal income Vector autoregression

Notes:

Also published in Staff Papers, Vol. 40, No. 1, March 1993.

English

Publication Date:

May 1, 1992

ISBN/ISSN:

9781451978803/1018-5941

Stock No:

WPIEA0341992

Pages:

28

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