Exchange rates and macroeconomic fundamentals: Evidence of instabilities from time‐varying factor loadings

Eric Hillebrand, Jakob Guldbæk Mikkelsen, Lars Spreng and Giovanni Urga

Journal of Applied Econometrics, 2023, vol. 38, issue 6, 857-877

Abstract: We examine the relationship between exchange rates and macroeconomic fundamentals using a two‐step maximum likelihood estimator through which we compute time‐varying factor loadings. Factors are obtained as principal components, extracted from vintage macro‐datasets that combine FRED‐MD and OECD databases. Using 14 currencies over 1990–2021, we show that the loadings on the factors vary considerably over time and increase the percentage of explained variation in exchange rates by an order of magnitude. Time‐varying loadings improve the overall predictive ability of the model, especially during crises, and lead to better forecasts of sign changes in exchange rates.

Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
https://doi.org/10.1002/jae.2984

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:wly:japmet:v:38:y:2023:i:6:p:857-877

Ordering information: This journal article can be ordered from
http://www3.intersci ... e.jsp?issn=0883-7252

Access Statistics for this article

Journal of Applied Econometrics is currently edited by M. Hashem Pesaran

More articles in Journal of Applied Econometrics from John Wiley & Sons, Ltd.
Bibliographic data for series maintained by Wiley Content Delivery ().