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Uncovered Interest Parity with Fundamentals: A Brazilian Exchange Rate Forecast Model Marcelo Kfoury Muinhos Paulo Springer de Freitas Fabio Araujo Research.

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Presentation on theme: "Uncovered Interest Parity with Fundamentals: A Brazilian Exchange Rate Forecast Model Marcelo Kfoury Muinhos Paulo Springer de Freitas Fabio Araujo Research."— Presentation transcript:

1 Uncovered Interest Parity with Fundamentals: A Brazilian Exchange Rate Forecast Model Marcelo Kfoury Muinhos Paulo Springer de Freitas Fabio Araujo Research Department Central Bank of Brazil

2 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 1 - Introduction  Motivation: The most challenging topic Pass-through UIP, PPP and Random Walk  Objetives of the Paper UIP with a equilibrium exchange rate that clears the Balance of Payments

3 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 2 – UIP and others  Survey : JP Morgan Model (2000)  Productivity, terms of trade, and trade openness Obstfeld and Rogoff (1996) Wadhwani (1999)

4 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 3 – BCB X-Models  Random Walk with Monetary Surprises (RWMS)  UIP with “Rational Expectations”  UIP with “Adaptive Expectations”

5 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 4 – The UIP with Fundamentals  IS Curve  Phillips Curve  Taylor Rule

6 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 4 – The UIP with Fundamentals  The UIP with Fundamentals is the exchange rate that should clear BP at t + K.

7 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 4 – The UIP with Fundamentals  Solving the system Balance of payment clears at time t + K Linear equations: 11 K - 1 Non-linear trade balance equation At t+1, taken values at t as given Deviation from equilibrium

8 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 - Simulations UIP - 12 x 4 periods

9 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP with and without real exchange in IS

10 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – Random Walk with and without real exch. in IS

11 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to inflation shock)

12 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to inflation shock) Real Exchange Resp to Inflation Shock -0.060 -0.050 -0.040 -0.030 -0.020 -0.010 0.000 17 131925313743495561677379 UIPRW

13 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to interest rate shock)

14 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to interest rate shock) Real Exchange Resp to Interest Shock -0.010 -0.005 0.000 0.005 0.010 17 131925313743495561677379 UIPRW

15 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to output gap shock)

16 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to output gap shock)

17 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to risk shock)

18 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 5 – UIP & RW (resp. to risk shock)

19 Research Department – Central Bank of Brazil One Year of Inflation Targeting in Brazil 6 - Conclusion  UIP with Fundamentals & RWMS  Expected time to clear the BP  Extensions


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