url
26
Nov
2013

Performance of CHEERs Based Equilibrium Exchange Rate of Pakistan: Data Analysis

The average of the dummy came out to be 0.4 for the PPP-UIP Model Estimated Exchange Rate and 0.5 for the Random Walk Estimated Exchange Rate respectively. This test suggests that the forecasting of the Random Walk is random such that it successfully forecast the direction of the future Exchange Rate by 50 % which is totally random considering that there are only two directions and it should be 50% by definition too, while in comparison the Model can successfully only forecast the direction of the future Exchange Rate by 40% hence it is unable to perform better than the Random Walk Model. In the evaluation the Random Walk model performed better than more efficient PPP-UIP model due to of the following expected reasons:
• As the variable Exchange Rate is found out to be non-stationary, so the Random Walk model is able to utilize the higher inertia in the series to forecast the future observations.
• The Misalignment of the Exchange Rate, the scope of the Pakistani Financial Market as compared to the USA Financial Market may have caused the reason for the PPP-UIP model to perform insufficiently outside the sample.

These results suggests, the above defined suitable model does not have good forecasting ability as compared to the Random Walk Model, hence with the given evidence the Hypothesis four is rejected.

6. Limitations

The level convergence that is achieved using this model seems not to be very strong so that I can perform better in the forecasting. The equilibrium restores itself in 3 years after a shock so in order to see any performance in the forecasting it should be done for more than 3 years time period (i.e. more than 36 observations) so that it can compete Random Walk Model’s forecast.
Secondly this is type of equilibrium model it tells about the situation of the Actual Exchange Rate according to certain conditions so if it is already suggesting the presence of disequilibrium then ultimately it will forecast disequilibrium too so comparing its result to Random Walk Model is irrelevant.

The average of the dummy came out to be 0.4 for the PPP-UIP Model Estimated Exchange Rate and 0.5 for the Random Walk Estimated Exchange Rate respectively. This test suggests that the forecasting of the Random Walk is random such that it successfully forecast the direction of the future Exchange Rate by 50 % which is totally random considering that there are only two directions and it should be 50% by definition too, while in comparison the Model can successfully only forecast the direction of the future Exchange Rate by 40% hence it is unable to perform better than the Random Walk Model. In the evaluation the Random Walk model performed better than more efficient PPP-UIP model due to of the

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Kevin J. Brandon

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