Chapter 9
Foreign Exchange Rate Determination and Forecasting
1 后座的妈妈 Questions
1. Term Forecasting. What are the major differences between short-term and long-term forecasts for the following:
a. A fixed exchange rate
b. A floating exchange rate
Short-term forecasts are typically motivated by a desire to hedge a receivable, payable, or dividend for perhaps a period of three months. In this ca, the long-run economic fundamentals may not be as important as technical factors in the marketplace, government intervention, news, and passing whims of traders and investors. Accuracy of the forecast is critical since most of the exchange rate changes are relatively small even though the day-to-day volatility may be high.
Long-run forecasts may be motivated by a multinational firm’s desire to initiate a foreign investment, or perhaps to rai long-term funds denominated in a foreign currency. Or a portfolio manager may be considering diversifying for the long-term in foreign curities. The longer the time horizon of the forecast, the more inaccurate but also the less critical the forecast is likely to be. The forecaster will typically u annual data to display long-run trends in such economic fundamentals as foreign inflation, growth, and the balance of payments (BOP).
Exhibit 9.5 summarizes the various forecasting periods, regimes, and the authors’ suggested methodologies.
2. Exchange Rate Dynamics. What is meant by the term “overshooting?” What caus it and how is it corrected?
Assume that the current spot rate between the dollar and the euro, as illustrated in Exhibit 9.7, is S0. The U.S. Federal Rerve announces an expansionary monetary policy which cuts U.S. dollar interest rates. If euro-denominated interest rates remain unchanged, the new spot rate expected by the exchange markets on the basis of interest differentials is S1. This immediate change in the exchange rate is typical of how the markets react to news, distinct economic and political events, which are obrvable. The immediate change in the value of the dollar/euro is therefore bad on interest differentials.
As time pass, however, the price impacts of the monetary policy change start working their way through the economy. As price changes occur over the medium to long-term, purchasing power parity forces drive the market dynamics, and the spot rate moves
from 森林小树S1 toward S2. Although both S1 and
S2 were rates determined by the market, they reflect the dominance of different theoretical principles. As a result, the initial lower value of the dollar of S1 is often explained as an overshooting of the longer-term equilibrium value of 黔东南景点S聊天背景怎么设置2出纳工作总结.
3. Fundamental Equilibrium. What is meant by the term “fundamental equilibrium path” for a currency value? What is “noi?”
It appears from decades of theoretical and empirical studies that exchange rates do adhere to the fundamental principles and theories. Fundamentals do apply in the long term. There is, therefore, something of a fundamental equilibrium path for a currency’s value. It also ems that in the short term, a variety of random events, institutional frictions, and technical factors may cau currency values to deviate significantly from their long-term fundamental path. This is sometimes referred to as 英语海报noi. Clearly, therefore, one might expect deviations from the long-term path not only to occur, but also to occur with some regularity and relative longevity. Exhibit 9.6 illustrates this synthesis of forecasting thought. The long-term equilibrium path of the currency—although relatively well defined in retrospect—is not always apparent in the short term. The exchange rate itlf may deviate in something of a cycle or wave about the long-term path.
4. Ast Market Approach to Forecasting. Explain how the ast market approach can be ud to forecast future spot exchange rates. How does the ast market approach differ from the BOP approach to forecasting?
The ast market approach, sometimes called the relative price of bonds or portfolio balance approach, argues that exchange rates are determined by the supply and demand for financial asts. Shifts in the supply and demand for financial asts alter exchange rates. Changes in monetary and fiscal policy alter expected returns and perceived relative risks of financial asts, which in turn alter rates. This differs from the balance of payments approach简单的签名 argument that the equilibrium exchange rate is found when the net inflow (outflow) of foreign exchange arising from current account activities matches the net outflow (inflow) of foreign exchange arising from financial account activities.
The ast market approach assumes that whether foreigners are willing to hold claims in monetary form depends on an extensive t of investment considerations or drivers. The drivers include the following:
∙ Relative real interest rates are a major consideration for investors in foreign bonds and short-term money market instruments.
∙ Prospects for economic growth and profitability are an important determinant of cross-border equity investment in both curities and foreign direct investment.
∙ Capital market liquidity is particularly important to foreign institutional investors. Cross-border investors are not only interested in the ea of buying asts, but also in the ea of lling tho asts quickly for fair market value if desired.
∙ A country’s economic and social infrastructure is an important indicator of that country’s ability
to survive unexpected external shocks and to prosper in a rapidly changing world economic environment.
