Scandinavian Working Papers in Economics

Umeå Economic Studies,
Umeå University, Department of Economics

No 698: Chartist Trading in Exchange Rate Theory

Carina Selander ()
Additional contact information
Carina Selander: Department of Economics, Umeå University, Postal: S 901 87 Umeå, Sweden

Abstract: This thesis consists of four papers, of which paper 1 and 4 are co-written with Mikael Bask. Paper [1]

implements chartists trading in a sticky-price monetary model for determining the exchange rate. It is

demonstrated that chartists cause the exchange rate to "overshoot the overshooting equilibrium" of a

sticky-price monetary model. Chartists base their trading on a short-long moving average. The

importance of technical trading depends inversely on the time horizon in currency trade. The exchange

rate's perfect foresight path near long-run equilibrium is derived and it is demonstrated that the shorter

the time horizon, the greater the exchange rate overshooting.

The aim of Paper [2] is to see how the dynamics of the basic target zone model changes when

chartists and fundamentalists are introduced. Chartists use technical trading and the relative importance

of technical and fundamental analyses depend on the time horizon in currency trade. The model also

includes realignment expectations, which increase with the weight of chartists. The introduction of

chartists may significantly reduce and reverse, the so-called "honeymoon effect" of a fully credible

target zone. Further, chartists may cause the correlation between the exchange rate and the

instantaneous interest rate differential to become either positive or negative.

Using a chartist-fundamentalist set-up, Paper [3] derives the effects on the current exchange rate of

central bank intervention. Fundamentalists have rational expectations and chartists use so called

support and resistance levels in their trading. This technique results in chartists having both

bandwagon expectations and regressive expectations. Chartists may enhance or suppress the effect of

intervention depending on their expectations. The results indicate that a chartist channel exists.

The aim of Paper [4] is threefold; (i) to investigate if there is a unique rational expectations

equilibrium (REE) in a new Keynesian macroeconomic model augmented with technical trading, (ii),

to investigate if the unique REE is adaptively learnable and, (iii), to investigate if this unique and

adaptively learnable REE is desirable in an inflation rate targeting regime. The monetary authority is

using a Taylor rule when setting the interest rate. A main conclusion is that a robust Taylor rule

implies that the monetary authority should increase (decrease) the interest rate when the CPI inflation

rate increases (decreases) and when the currency gets stronger (weaker).

Keywords: Chartist Trading; Foreign Exchange; Overshooting; Sterilized Intervention; Target zone; Taylor rules

JEL-codes: E43; E52; F31; F33; F37; F41

230 pages, November 20, 2006

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