Forecasting the euro/dollar exchange rate: heads, tails or PPP?

Forecasting the exchange rate is a fairly pointless exercise in the short term. It is difficult to obtain a result that differs from that of a random draw, especially on the major currency markets which are the most effectively arbitrated. On a medium-term horizon, purchasing power parity (PPP) nonetheless provides a relatively robust foothold. Moreover, convergence towards equilibrium involves the nominal exchange rate and not prices. Using a simple model, we can forecast a rise...