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Exchange Rate Undershooting: Evidence and Theory

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  • Müller, Gernot
  • Wolf, Martin
  • Hettig, Thomas

Abstract

We reconsider the delayed overshooting puzzle through the lens of a New Keynesian model with information rigidities. In the model, market participants do not directly observe the natural rate of interest and learn from unanticipated shifts in monetary policy about the state of the economy. We estimate the model and find that it can account for the joint responses of spot and forward exchange rates, excess returns, and macroeconomic indicators to monetary policy shocks. Our results suggest that information rigidities are important for understanding exchange rate dynamics.

Suggested Citation

  • Müller, Gernot & Wolf, Martin & Hettig, Thomas, 2019. "Exchange Rate Undershooting: Evidence and Theory," CEPR Discussion Papers 13597, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:13597
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    More about this item

    Keywords

    exchange rate; Forward exchange rates; Excess return; Uip puzzle; Monetary policy; Information effect; Information rigidities;
    All these keywords.

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • E43 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Interest Rates: Determination, Term Structure, and Effects

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