Macroeconomic fundamentals and the dm/$ exchange rate

Temporal instability and the monetary model

Michael D. Goldberg, Roman Frydman

    Research output: Contribution to journalArticle

    Abstract

    The findings of this study lead to three conclusions. First, the process governing the short-run movement of exchange rates over periods of floating is episodically unstable. Second, the switching nature of the exchange rate process takes a striking form, namely that different sets of macroeconomic fundamentals matter for exchange rates during different time periods. Finally, it is difficult to reconcile these structural change findings with the monetary model with RE. The implausibility of relying on changes in the structure of the model under RE as a way to explain the temporal instability of the monetary model suggests that what is required is an alternative expectational framework that breaks the rigid connection between expectations functions and the one 'true' semi-reduced form. The TCE framework achieves this end by recognizing that agents possess a pluralism of theories with which to look forward and it assumes that their theories provide only qualitative knowledge about how the exchange rate might be related to some set of fundamentals.25 With imperfect knowledge, as formulated by the TCE framework, agents may change the theories (or sets of fundamentals) they use to forecast exchange rate movements from one time period to another. It is this possibility of changing beliefs that allows the monetary model with TCE to be reconciled with the our finding that different sets of macroeconomic fundamentals matter for short-run exchange rate movements during different time periods. The conclusion is that if one is prepared to move away from the RE paradigm and recognize that market agents possess imperfect knowledge, then plausible interpretations of the connection between floating exchange rates and macroeconomic fundamentals might after all become possible.

    Original languageEnglish (US)
    Pages (from-to)421-435
    Number of pages15
    JournalInternational Journal of Finance and Economics
    Volume6
    Issue number4
    DOIs
    StatePublished - 2001

    Fingerprint

    Exchange rates
    Macroeconomic fundamentals
    Short-run
    Floating exchange rates
    Floating
    Paradigm
    Reduced form
    Pluralism
    Structural change

    Keywords

    • Cointegrating VARS
    • Exchange rates
    • Monetary models
    • Temporal instability

    ASJC Scopus subject areas

    • Finance
    • Accounting
    • Economics and Econometrics

    Cite this

    Macroeconomic fundamentals and the dm/$ exchange rate : Temporal instability and the monetary model. / Goldberg, Michael D.; Frydman, Roman.

    In: International Journal of Finance and Economics, Vol. 6, No. 4, 2001, p. 421-435.

    Research output: Contribution to journalArticle

    @article{9e37d8392b8d47f3b2ea7311a899ac5d,
    title = "Macroeconomic fundamentals and the dm/$ exchange rate: Temporal instability and the monetary model",
    abstract = "The findings of this study lead to three conclusions. First, the process governing the short-run movement of exchange rates over periods of floating is episodically unstable. Second, the switching nature of the exchange rate process takes a striking form, namely that different sets of macroeconomic fundamentals matter for exchange rates during different time periods. Finally, it is difficult to reconcile these structural change findings with the monetary model with RE. The implausibility of relying on changes in the structure of the model under RE as a way to explain the temporal instability of the monetary model suggests that what is required is an alternative expectational framework that breaks the rigid connection between expectations functions and the one 'true' semi-reduced form. The TCE framework achieves this end by recognizing that agents possess a pluralism of theories with which to look forward and it assumes that their theories provide only qualitative knowledge about how the exchange rate might be related to some set of fundamentals.25 With imperfect knowledge, as formulated by the TCE framework, agents may change the theories (or sets of fundamentals) they use to forecast exchange rate movements from one time period to another. It is this possibility of changing beliefs that allows the monetary model with TCE to be reconciled with the our finding that different sets of macroeconomic fundamentals matter for short-run exchange rate movements during different time periods. The conclusion is that if one is prepared to move away from the RE paradigm and recognize that market agents possess imperfect knowledge, then plausible interpretations of the connection between floating exchange rates and macroeconomic fundamentals might after all become possible.",
    keywords = "Cointegrating VARS, Exchange rates, Monetary models, Temporal instability",
    author = "Goldberg, {Michael D.} and Roman Frydman",
    year = "2001",
    doi = "10.1002/ijfe.166",
    language = "English (US)",
    volume = "6",
    pages = "421--435",
    journal = "International Journal of Finance and Economics",
    issn = "1076-9307",
    publisher = "John Wiley and Sons Ltd",
    number = "4",

    }

    TY - JOUR

    T1 - Macroeconomic fundamentals and the dm/$ exchange rate

    T2 - Temporal instability and the monetary model

    AU - Goldberg, Michael D.

    AU - Frydman, Roman

    PY - 2001

    Y1 - 2001

    N2 - The findings of this study lead to three conclusions. First, the process governing the short-run movement of exchange rates over periods of floating is episodically unstable. Second, the switching nature of the exchange rate process takes a striking form, namely that different sets of macroeconomic fundamentals matter for exchange rates during different time periods. Finally, it is difficult to reconcile these structural change findings with the monetary model with RE. The implausibility of relying on changes in the structure of the model under RE as a way to explain the temporal instability of the monetary model suggests that what is required is an alternative expectational framework that breaks the rigid connection between expectations functions and the one 'true' semi-reduced form. The TCE framework achieves this end by recognizing that agents possess a pluralism of theories with which to look forward and it assumes that their theories provide only qualitative knowledge about how the exchange rate might be related to some set of fundamentals.25 With imperfect knowledge, as formulated by the TCE framework, agents may change the theories (or sets of fundamentals) they use to forecast exchange rate movements from one time period to another. It is this possibility of changing beliefs that allows the monetary model with TCE to be reconciled with the our finding that different sets of macroeconomic fundamentals matter for short-run exchange rate movements during different time periods. The conclusion is that if one is prepared to move away from the RE paradigm and recognize that market agents possess imperfect knowledge, then plausible interpretations of the connection between floating exchange rates and macroeconomic fundamentals might after all become possible.

    AB - The findings of this study lead to three conclusions. First, the process governing the short-run movement of exchange rates over periods of floating is episodically unstable. Second, the switching nature of the exchange rate process takes a striking form, namely that different sets of macroeconomic fundamentals matter for exchange rates during different time periods. Finally, it is difficult to reconcile these structural change findings with the monetary model with RE. The implausibility of relying on changes in the structure of the model under RE as a way to explain the temporal instability of the monetary model suggests that what is required is an alternative expectational framework that breaks the rigid connection between expectations functions and the one 'true' semi-reduced form. The TCE framework achieves this end by recognizing that agents possess a pluralism of theories with which to look forward and it assumes that their theories provide only qualitative knowledge about how the exchange rate might be related to some set of fundamentals.25 With imperfect knowledge, as formulated by the TCE framework, agents may change the theories (or sets of fundamentals) they use to forecast exchange rate movements from one time period to another. It is this possibility of changing beliefs that allows the monetary model with TCE to be reconciled with the our finding that different sets of macroeconomic fundamentals matter for short-run exchange rate movements during different time periods. The conclusion is that if one is prepared to move away from the RE paradigm and recognize that market agents possess imperfect knowledge, then plausible interpretations of the connection between floating exchange rates and macroeconomic fundamentals might after all become possible.

    KW - Cointegrating VARS

    KW - Exchange rates

    KW - Monetary models

    KW - Temporal instability

    UR - http://www.scopus.com/inward/record.url?scp=0035205037&partnerID=8YFLogxK

    UR - http://www.scopus.com/inward/citedby.url?scp=0035205037&partnerID=8YFLogxK

    U2 - 10.1002/ijfe.166

    DO - 10.1002/ijfe.166

    M3 - Article

    VL - 6

    SP - 421

    EP - 435

    JO - International Journal of Finance and Economics

    JF - International Journal of Finance and Economics

    SN - 1076-9307

    IS - 4

    ER -