Exchange Rate Misalignments in Frequency Domain

This research uses spectral methodology to study how the volatility of spot exchange rate misalignments changed as a result of (1) signing of the Plaza Accord and (2) introduction of the Euro. We study the deviations of Canadian Dollar/US Dollar, Japanese Yen/US Dollar and US Dollar/British Pound spot exchange rates from CPI- and TPI-based equilibrium exchange rates. The spectral density results indicate that the Plaza Accord and the introduction of the Euro helped reduce the volatility of exchange rate misalignments and excess returns for the Yen and the Pound along virtually all frequency components. On the other hand, the Canadian Dollar/US Dollar misalignments are characterized by higher volatility after the adoption of the Plaza Accord.