Understanding forecast failure of ESTAR models of real exchange rates

Daniel Buncic

MPRA Paper from University Library of Munich, Germany

Abstract: The forecast performance of the empirical ESTAR model of Taylor, Peel and Sarno (2001) is examined for 4 bilateral real exchange rate series over an out-of-sample evaluation period of nearly 12 years. Point as well as density forecasts are constructed, considering forecast horizons of 1 to 22 steps head. The study finds that no forecast gains over a simple AR(1) specification exist at any of the forecast horizons that are considered, regardless of whether point or density forecasts are utilised in the evaluation. Non-parametric methods are used in conjunction with simulation techniques to learn about the models and their forecasts. It is shown graphically that the nonlinearity in the point forecasts of the ESTAR model decreases as the forecast horizon increases. The non-parametric methods show also that the multiple steps ahead forecast densities are normal looking with no signs of bi-modality, skewness or kurtosis. Overall, there seems little to be gained from using an ESTAR specification over a simple AR(1) model.

Keywords: Purchasing power parity; regime modelling; non-linear real exchange rate models; ESTAR; forecast evaluation; density forecasts; non-parametric methods. (search for similar items in EconPapers)
JEL-codes: C22 C52 C53 F31 F47 (search for similar items in EconPapers)
Date: 2009-02-03
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (9)

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Related works:
Journal Article: Understanding forecast failure of ESTAR models of real exchange rates (2012)
Working Paper: Understanding forecast failure of ESTAR models of real exchange rates (2009)
Working Paper: Understanding forecast failure in ESTAR models of real exchange rates (2009)
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