Working Paper

Noise Trading and the Effects of Monetary Policy Shocks on Nominal and Real Exchange Rates

Author

  • Christian Pierdzioch
Publication Date

A number of empirical studies have reported the result that exchange rates show a delayed overshooting in response to monetary policy shocks. This result is puzzling. Economic theory suggests that the overshooting should occur immediately after the shock, not with a delay. This paper uses a 'new open economy macroeconomics' model with pricing-to-market to analyze whether the assumption of noise trading in the foreign exchange market helps to resolve the delayed overshooting puzzle. The implications of noise trading for the effects of monetary policy shocks on the nominal and on the real exchange rate are analyzed.

Info

JEL Classification
F31, F32, F41

Key Words

  • Exchange rate overshooting
  • monetary policy
  • Noise trading