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Uncovered Interest Parity with Fundamentals: A Brazilian Exchange Rate Forecast Model

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  • Marcelo Kfoury Muinhos
  • Paulo Springer de Freitas
  • Fabio Araujo

Abstract

One of the most challenging elements of the inflation-targeting framework is the exchange rate forecast. Wadhwani (1999) proposed a UIP, where real variables like the unemployment differential, the current account differential, and the excess return of financial assets affect the expected exchange rate. The objectives of this paper are first to include, as in Wadhwani (1999), some real variables to anchor exchange rate expectations. In our case, the long-run value of the exchange rate is determined by balanced external accounts. Second, we use this approach to simulate the behavior of key macroeconomic variables in an inflation-targeting structural model for Brazil. Finally, we compare the results with those of a random walk specification. The impulse responses under the UIP-with-fundamentals model seemed to be more realistic than those obtained by using other specifications for exchange rate forecasts.

Suggested Citation

  • Marcelo Kfoury Muinhos & Paulo Springer de Freitas & Fabio Araujo, 2001. "Uncovered Interest Parity with Fundamentals: A Brazilian Exchange Rate Forecast Model," Working Papers Series 19, Central Bank of Brazil, Research Department.
    • Handle: RePEc:bcb:wpaper:19
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    File URL: https://www.bcb.gov.br/content/publicacoes/WorkingPaperSeries/wps19.pdf
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    Cited by:

    1. Simone Cuiabano & Jose Divino, 2010. "Exchange Rate Determination: An Application of a Monetary Model for Brazil," International Advances in Economic Research, Springer;International Atlantic Economic Society, vol. 16(4), pages 345-357, November.
    2. repec:kap:iaecre:v:16:y:2010:i:4:p:345-357 is not listed on IDEAS
    3. Marcelo Kfoury Muinhos & Sergio Afonso Lago Alves, 2003. "Medium-Size Macroeconomic Model for the Brazilian Economy," Working Papers Series 64, Central Bank of Brazil, Research Department.

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