Exchange Rate Puzzles: A Tale of Switching Attractors

Paul De Grauwe and Marianna Grimaldi

Chapter 3 in Exchange Rates and Global Financial Policies, 2014, pp 71-117 from World Scientific Publishing Co. Pte. Ltd.

Abstract: The rational expectations efficient market model of the exchange rate has failed empirically. In this paper, we develop a model of the exchange rate in which agents use simple forecasting rules. Based on an ex post evaluation of the relative profitability of these rules they decide whether to switch or not. In addition, transactions costs in the goods market are introduced. We show that this simple model creates great complexity in the market which is characterised by the fact that the exchange rate is disconnected from its fundamental most of the time. Finally, we show that this model mimicks most of the empirical puzzles uncovered in the literature.

Keywords: Exchange Rate; Financial Policies; Turbulence; Exchange Market; Motenary Union; Macroeconomics; Economic Models; Behaviorial Economics; Monetary Integration; Euro; Financial Crisis; European Monetary Policy; Dynamic Stochastic General Equilibriumauthor (search for similar items in EconPapers)
Date: 2014
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Related works:
Journal Article: Exchange rate puzzles: A tale of switching attractors (2006)
Working Paper: Exchange Rate Puzzles: A Tale of Switching Attractors (2004)
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