A market microstructure analysis of the Canadian dollar depreciation episodes in the 1990s

Nikola Gradojevic

Applied Financial Economics, 2007, vol. 17, issue 17, pages 1377-1387

Abstract: This article analyses two sudden depreciations of the Canadian dollar in the 1990s: July/August 1998 and November/December 1994. It is found that a nonparametric exchange rate model based on a combination of fundamental and microstructure (order flow) variables can be used not only to explain, but to also predict such excessive currency movements. During the depreciation periods, the forecast accuracy of the model is significantly superior to that of the linear model. The results provide an illustrative example that order flow variables have a substantial explanatory power for a very short-run exchange rate prediction.

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