The Monetary Exchange Rate Model: Long-run, Short-run, and Forecasting Performance

Shidong Zhang () and Thomas C. Lowinger ()
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Shidong Zhang: Washington State University, Postal: Zhang, Shidong, Washington State Department of Social and Health Services, Olympia, WA, 98504-5500,
Thomas C. Lowinger: Economics Saint Martin’s University, Postal: , Division of Business and Economics, Sanit Martin’s University 5300 Pacific Ave SE Lacey, WA 98503,

Journal of Economic Integration, 2007, vol. 22, 397-406

Abstract:

This paper examines the monetary model of exchange rate determination for the US dollar exchange rates against the currencies of Canada, Japan, and the United Kingdom. In this paper, we utilize the cointegration technique for testing long-run relationship, and vector error correction model for short-run dynamics and out-ofsample forecasting. The existence of cointegration supports the long-run relationship among nominal exchange rate and a number of fundamental variables. The out-ofsample forecasting indicates that the nominal exchange rate forecasts from the VEC monetary model can be superior to random-walk based forecasts in a projection period of less than one year. This conclusion implies that the monetary model of exchange rate determination is a reliable tool for policy makers to evaluate their currency and the monetary authority should expect a much shortened response time to the monetary policy impulse in the surging trend of international economic integration.

Keywords: Exchange rate; Forecast; Monetary model; Cointegration; Vector error correction model (search for similar items in EconPapers)
JEL-codes: C53 F31 F41 F47 (search for similar items in EconPapers)
Date: 2007
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Persistent link: https://EconPapers.repec.org/RePEc:ris:integr:0400

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