Liquidity Yield and Exchange Rate Predictability

47 Pages Posted: 7 May 2020

See all articles by Shiu‐Sheng Chen

Shiu‐Sheng Chen

Department of Economics, National Taiwan University

Yu‐Hsi Chou

National Taiwan Normal University, Department of Civic Education and Leadership

Date Written: April 11, 2020

Abstract

In this paper, we extend the Taylor rule model of exchange rate determination by incorporating the liquidity yield on government bonds and investigate exchange rate predictability. We find that the liquidity yield on government bonds delivers additional predictive power to future exchange rate movements beyond the model with Taylor rule fundamentals, using both in-sample and out-of-sample tests. In particular, the model with liquidity yield exhibits superior predictive power after the currency swap market frictions are controlled.

Keywords: Liquidity Yield; Meese--Rogoff Puzzle; Exchange Rate Forecasting

JEL Classification: F31, F41

Suggested Citation

Chen, Shiu-Sheng and Chou, Yu-hsi, Liquidity Yield and Exchange Rate Predictability (April 11, 2020). Available at SSRN: https://ssrn.com/abstract=3573762 or http://dx.doi.org/10.2139/ssrn.3573762

Shiu-Sheng Chen

Department of Economics, National Taiwan University ( email )

No. 1, Sec. 4, Roosevelt Road
Taipei, 10617
Taiwan

Yu-hsi Chou (Contact Author)

National Taiwan Normal University, Department of Civic Education and Leadership ( email )

No. 162, Section 1
Heping East Road
Taipei City, Da’an District 106
Taiwan

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