An Empirical Examination of Rational Expectations Hypothesis in the Foreign Exchange Market
13 Pages Posted: 31 Oct 2018
Date Written: October 9, 2018
The Efficient Market (EMH) and Rational Expectation Hypothesis (REH) have been examined for the Canadian Dollar / US Dollar and Swiss Frank / US Dollar exchange rates using data from February 1988 to May 1999 published by the Financial Times’ Currency Forecaster. Using unit root, and restricted co-integration techniques, we find that one-month ahead forecast is rational for the Swiss Frank / US Dollar exchange rate. However, one-month-ahead Canadian Dollar forecast is not rational. The study shows that when forecasting errors are corrected for serial correlation because of moving average process, three-month-ahead forecasts become rational for both the currencies. The twelve-month-ahead forecasts are not rational for any of the currencies.
Keywords: Efficient Market Hypothesis, Rational Expectation Hypothesis, Canadian Dollar, US Dollar, Swiss Franc, Currency, Forecast
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