Summary
A four-period classification is used to categorise recent exchange-rate theories or models. In the very short period, only capital flows are relevant. In the short period, both capital flows and payments on the current account play a role. In the long period, the capital account and the current account are individually in equilibrium. In the very long period, purchasing power parity holds. Cash-in-advance models are dealt with separately. Many models that purport to explain exchange rates do in fact not provide for the exchange of currencies. No model stands up satisfactorily to econometric testing. Speculative bubbles, the ‘peso problem’ and ‘news’ play havoc with tests of the uncovered interest parity theorem, the core of the monetary models. This aside, the fundamental assumption of rational expectations itself is suspect. There does not seem to be such a thing as a ‘true’ model.
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I am indebted to Dr. W.J.B. Smits and Professor J.W. Gunning for helpful discussions on a number of issues pertinent to this article.
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Visser, H. Exchange rate theories. De Economist 137, 16–46 (1989). https://doi.org/10.1007/BF01857710
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DOI: https://doi.org/10.1007/BF01857710