A simultaneous, rational expectations model of the Australian dollar/US dollar market

A simultaneous, rational expectations model of the Australian dollar/US dollar foreign exchange market is presented, using information from both spot and futures markets. Tests for unit roots are conducted, and in no case can the hypothesis of a single unit root in either the spot rate or the futures rate be rejected. Cointegration tests also are reported, and following minor respecification of the model, the hypothesis of no cointegration is rejected for all equations. All parameter estimates are of the expected sign, and virtually all parameter estimates are significant. Intra-sample, the model simulates futures and spot exchange rates with per cent RMSEs of 2.7% and 2.6% respectively, while post-sample per cent RMSEs for futures and spot rates are 1.2% and 0.65%. The model significantly outperforms a random walk forecast of the spot rate post-sample, and also significantly surpasses the forecast of a lagged futures rate, this last result being evidence against the efficient markets hypothesis.