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Forecasting the U.S. Dollar in the 21st Century

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  • Engel, Charles
  • Wu, Steve Pak Yeung
Abstract
The level of the (log of) the exchange rate seems to have strong forecasting power for dollar exchange rates against major currencies post-2000 at medium- to long-run horizons of 12-, 36- and 60-months. We find that this is true using conventional asymptotic statistics correcting for serial correlation biases. But correcting for small-sample bias using simulation methods, we find little evidence to reject a random walk. This small sample bias arises because of near-spurious correlation when the predictor variable is persistent and the horizon for exchange rate forecasts is long. Similar problems of spurious correlation may arise when other persistent variables are used to forecast changes in the exchange rate. We find, in fact, using asymptotic statistics, the level of the exchange rate provides better forecasts than economic measures of “global risk†, and the measures of global risk do not improve the (possibly spurious) forecasting power of the level of the exchange rate.

Suggested Citation

  • Engel, Charles & Wu, Steve Pak Yeung, 2021. "Forecasting the U.S. Dollar in the 21st Century," CEPR Discussion Papers 15915, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:15915
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    3. FATUM, Rasmus & YAMAMOTO, Yohei & CHEN, Binwei, 2023. "The Trend Effect of Foreign Exchange Intervention," Discussion paper series HIAS-E-132, Hitotsubashi Institute for Advanced Study, Hitotsubashi University.
    4. Kwas, Marek & Beckmann, Joscha & Rubaszek, Michał, 2024. "Are consensus FX forecasts valuable for investors?," International Journal of Forecasting, Elsevier, vol. 40(1), pages 268-284.
    5. Ca’ Zorzi, Michele & Rubaszek, Michał, 2023. "How many fundamentals should we include in the behavioral equilibrium exchange rate model?," Economic Modelling, Elsevier, vol. 118(C).
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    7. Gian Maria Tomat, 2024. "The monetary policy trilemma from the perspective of European integration," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 53(1), February.
    8. Jackson, Karen & Magkonis, Georgios, 2024. "Exchange rate predictability: Fact or fiction?," Journal of International Money and Finance, Elsevier, vol. 142(C).

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    Keywords

    Forecasting exchange rates;

    JEL classification:

    • F30 - International Economics - - International Finance - - - General
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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