TY  - JOUR
AU  - Evans,Martin D.D.
AU  - Lyons,Richard K.
TI  - Order Flow and Exchange Rate Dynamics
JF  - National Bureau of Economic Research Working Paper Series
VL  - No. 7317
PY  - 1999
Y2  - August 1999
UR  - http://www.nber.org/papers/w7317
L1  - http://www.nber.org/papers/w7317.pdf
N1  - Author contact info:
Martin Evans
Department of Economics
Georgetown University
Washington, DC  20057
Tel: 202-687-1570
E-Mail: evansm1@georgetown.edu

Richard K. Lyons
460 Michigan Ave
Berkeley, CA 94707
Tel: 510-642-1059
Fax: 510-642-4700
E-Mail: lyons@haas.berkeley.edu
AB  - Macroeconomic models of nominal exchange rates perform poorly. In sample,  R2 statistics as high as 10 percent are rare. Out of sample, these models are typically out-forecast by a na‹ve random walk. This paper presents a model of a new kind. Instead of relying exclusively on macroeconomic determinants, the model includes a determinant from the field of microstructure-order flow. Order flow is the proximate determinant of price in all microstructure models. This is a radically different approach to exchange rate determination. It is also strikingly successful in accounting for realized rates. Our model of daily exchange-rate changes produces R2  statistics above 50 percent. Out of sample, our model produces significantly better short-horizon forecasts than a random walk. For the DM/$ spot market as a whole, we find that $1 billion of net dollar purchases increases the DM price of a dollar by about 1 pfennig.
ER  -