Foreign Exchange Markets

Introduction [by way of abstract] Two decades ago exchange-rate economics seemed to be in total shambles. That, however, did not last long. Science proceeds by successive approximations and in the intervening years the foreign exchange market became one of the most heavily researched areas in economics. The first wave of findings to come out of this new research concerned the centuries-old theoretical construct of purchasing power parity, and, relatedly, the behavior of real exchange rates. Here the consensus gradually shifted from the widespread view that PPP had collapsed to the view that it was, in fact, a 'useful empirical first empirical approximation' in the long-run, as Lothian and Taylor (1996) put it. In an introduction to the JIMF conference issue on exchange-rate modeling published in 1998, one of us wrote (Koedijk, 1998)1: 'Ten years of data and estimation techniques later the outlook is less bleak. At least in the medium-run a predictable relationship between exchange rates and economic fundamentals has re-emerged and reintroduced tempered optimism in exchange rate economics.'...

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