2003): “Can We Beat the Random-Walk Exchange Rate Forecasts : A Structural Approach,” Discussion paper

Meese and Rogoff [1983] show that macroeconomic models “of the Seventies ” fail to outperform the random walk exchange rate forecasts. Macroeconomics thus provide useless information as far as out-of-sample exchange rate forecasting is concerned. However, since Meese and Rogoff’s seminal paper, advances have been made in the theoretical modeling of international macroeconomic dynamics. New Open Economy Macroeconomics, developed in the wake of Obstfeld and Rogoff [1995]’s work, show that intertemporal general equilibrium models capture international stylized facts. In particular, the models based on pricing-to-market and limited participation account for exchange rate volatility. This paper aims at showing that these international macroeconomic models are able to beat the random walk forecasts. To that end, we first estimate the deep parameters of pricing-to-market and limited participation models through simulation-based methods. We find that the limited participation model succeeds in beating the random walk in the medium run