PREDICTORS OF EXCHANGE RATE RETURNS: EVIDENCE FROM INDONESIA

Abstract

Using historical time-series data, we investigate Indonesia’s exchange rate return predictability. We employ nine predictors, namely stock price, gold price, oil price, commodity price, inflation, balance of payment, total exports, the US T-bill rate, and the US federal fund rate. With historical data, we fail to discover any evidence that these factors predict Indonesia’s exchange rate returns. However, we find that oil price, commodity price, inflation, and the US T-bill rate can significantly predict Indonesia’s exchange rate returns during the Asian financial crisis. Our findings key implication is that it is the external factors that dominate the evolution of Indonesia’s exchange rate, and inflation rate is the only domestic factor for policy makers to control.