Real Exchange Rate Forecasting and PPP: This Time the Random Walk Loses

• Published in: Open economies review Vol. 27; no. 3; pp. 585 - 609
• Main Authors: Ca’ Zorzi, Michele, Muck, Jakub, Rubaszek, Michal
• Format: Journal Article
• Language: English
• Published: New York Springer US 01.07.2016; Springer Nature B.V
• Subjects: Central banks; Development Economics; Economic models; Economic Policy; Economic statistics; Economic theory; Economics; Economics and Finance; European Integration; Exchange rates; Forecasting; Foreign exchange rates; International Economics; Macroeconomics/Monetary Economics//Financial Economics; Probability distribution; Purchasing power parity; Research Article; Studies; Exchange rate forecasting; C32; Half-life; F37; F31; Purchasing power parity

This paper brings four new insights into the Purchasing Power Parity (PPP) debate. First, we show that a half-life PPP (HL) model is able to forecast real exchange rates better than the random walk (RW) model at both short and long-term horizons. Second, we find that this result holds if the speed o...