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On the predictive power of monetary exchange rate model: the case of the Malaysian ringgit/US dollar rate

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The predictive power of the monetary model for the Malaysian ringgit/US dollar (RM/USD) rate is analysed using quarterly data ending in 2006:Q3. We find compelling evidence of a long-run relationship between exchange rates and the economic fundamental determinant. Macroeconomic factors systematically affect the long-run movement of the RM/USD rate. Additionally, the RM/USD rate was overvalued by about 10% several quarters before the 1997 crisis; after the crisis, rates fluctuated close to the equilibrium value. The out-of-sample forecasts demonstrate that the monetary model outperforms the naive random walk model. The monetary and Purchasing Power Parity (PPP) models do well at the four to eight quarters horizon.

Document Type: Research Article


Affiliations: 1: Faculty of Economics and Management, Department of Economics, Universiti Putra Malaysia, Selangor, Malaysia 2: Faculty of Economics and Business, School of Economics, Universiti Kebangsaan Malaysia, Selangor, Malaysia 3: Department of Management and Operations, College of Business, Washington State University, Pullman, WA 99164-4736, USA

Publication date: June 1, 2009

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