ABSTRACT
Most exchange rate markets in the floating exchange rate regime have experienced continuous and sometimes dramatic fluctuations and volatility. Mussa (1996) has summarized the broad features of exchange rate behaviour. Mussa noted that (i) exchange rates are extremely volatile, with deviation of about 3 percent per month for the US dollar-Japanese yen and US dollar-Deutschemark rates; (ii) changes in exchange rates are very persistent, and the exchange rates closely approximate a random walk; (iii) there is correlation of almost unity between real and nominal exchange rates on high frequency data; and (iv) the variability of real exchange rates increases dramatically when a country moves from fixed to floating exchange rates. All these suggest that exchange rates can be much more volatile than the apparent fundamentals, and in practice deviation from equilibrium value can be persistent. Thus, researches of exchange rate behaviour and exchange rate forecasting have become perennial topics in international economics since the floating exchange rate regime was established in March 1973. As a result, many theories and models were developed.
