Empirical Evaluation of Exchange Rate Models

In this paper I present an evaluation of forecasts for the exchange rates between the US Dollar and the Australian Dollar, Japanese Yen and the Swiss Franc using different types of models. The literature on exchange rate forecasting includes many papers were the models were not able to outperform the random walk model in forecasting the exchange rate. Using different criteria I find that no single model stands out as the best model for forecasting exchange rates, since the results for the models differ between exchange rates and time periods. Also I find no evidence that economic models systematically outperform the random walk model. It even seems that the random walk model outperforms the other models as seen over the full analysis in this paper. I also implement the exchange rate forecasts obtained from some models to evaluate whether there are possibilities for profitable currency carry trade strategies. Although my data are not completely reliable for this issue the results suggest that profitable currency carry strategies could be possible.