In this paper the authors examine evidence on exchange rate predictability through commodity prices for a set of countries categorized as commodity import- and export-dependent developed and emerging countries.
The authors perform in-sample and out-of-sample forecasting analysis. The commodity prices are modeled to predict the exchange rate and to analyze whether this commodity price model can perform better than the random walk model (RWM) or not. These two models are compared and evaluated in terms of exchange rate forecasting abilities based on mean squared forecast error and Theil inequality coefficient.
The authors find that primary commodity prices better predict exchange rates in almost two-thirds of export-dependent developed countries. In contrast, the RWM shows superior performance in the majority of export-dependent emerging, import-dependent emerging and developed countries.
Previous studies examined the exchange rate of commodity export-dependent developed countries mainly. This study examines both developed and emerging countries and finds for which one the changes in prices of export commodities (in case of commodity export-dependent country) or prices of major importing commodities (in case of import-dependent countries) can significantly predict the exchange rate.
