Identification and Estimation of Exchange Rate Models with Unobservable Fundamentals
CentER Discussion Paper No. 2004-38
25 Pages Posted: 24 Jun 2004
Date Written: 2004
Abstract
This paper is concerned with issues of model specification, identification, and estimation in exchange rate models with unobservable fundamentals. We show that the model estimated by Gardeazabal, Regulez and Vazquez (International Economic Review, 1997) is not identified and demonstrate how to specify an identified model in-keeping with their intended approach. Estimates of the identified model are reported for five currencies over two time spans, and a restriction suggested by the asset market view of exchange rate determination is not rejected for any currency or time span. The forecasting performance of the model is also examined and is found to compare favourably with forecasts generated by a random walk with drift.
Keywords: Exchange rates, unobservable fundamentals, identification, temporal aggregation
JEL Classification: C32, F31
Suggested Citation: Suggested Citation