Paper Pushers or Paper Money? Empirical Assessment of Fiscal and Monetary Models of Exchange Rate Determination

This paper documents the evidence in support of fiscal and monetary exchange rates for the Canadian dollar, Deutschemark, Yen, and Pound over the 1974-1993 period. Cointegrating relationships between the real exchange rate and (i) fiscal impulses and (ii) productivity and government spending are estimated. Both Keynesian and neoclassical fixed-factors fiscal models are found to have little substantiation in the data. When these fiscal models are converted to nominal form, they are found to have approximately the same predictive power as monetary models, in-sample. While no model consistently and significantly outperforms a random walk, the fiscal models do appear to outperform monetary models in out-of-sample forecasting exercises. However, the improvement in forecast performance is seldom statistically significant