Exchange rate disconnect and private information: What can we learn from Euro-Dollar tweets?

Abstract

We use Twitter opinions about the Euro-Dollar exchange rate to estimate the private information model of Bacchetta and van Wincoop (2006) and investigate the disconnect between the exchange rate and macro fundamentals over both short and long horizons. We simulate the model with the estimated parameters and replicate the methodology of three studies that document the disconnect empirically. The model is consistent with the findings of the empirical literature, though for a different reason over short than long horizons. Over short horizons private information generates a true disconnect between exchange rates and macro fundamentals that accounts for empirical findings. Over long horizons the theory shows that exchange rate changes are mostly driven by observed fundamentals, but empirical limitations in identifying this long-run relationship often lead to an appearance of disconnect in the data.