Page 41 - Contributed Paper Session (CPS) - Volume 8

CPS2176 Chiraz KARAMTI et al.

Wavelet methods in statistics: Application in
forecasting exchange rate volatility
1
1
Chiraz KARAMTI , Aida KAMMOUN , Ahmed TRABELSI 2
1 Higher Institute of Business Administration (ISAAS), Sfax, Tunisia
2 PhD, Tunis University.
Abstract
Real effective exchange rate (REER) is a useful summary indicator of essential
economic information. However, the predictability of exchange rate
movements is still a major puzzle in international finance and even in official
statistics because of the conventional models’ inability to produce accurate
forecasts of the exchange rate volatility. This article suggests a novel technique
for modelling and forecasting EURO/USD exchange rate in time and
frequency, based on Wavelet transforms and GARCH models with high
frequency return data. The purpose is to check whether the performance of
these models is uniform along different frequencies or whether it is driven by
certain frequencies. The main finding of this work is that the predictability of
exchange rates varies along the different frequencies.

Keywords
Wavelet analysis; forecasts, GARCH models, exchange rate.

1. Introduction
In the context of globalization and economic integration, each country is
obliged to maintain commercial relations with several other countries.
Exchange rates of local money with the currencies of many partner and
competitor countries and their variations affect the volume of trade with
international markets. An aggregate indicator measuring the evolution of the
exchange rate against a set of other currencies can be constructed; it combines
various bilateral rates into a single indicator which is Real Effective Exchange
Rate (REER). The REER is the nominal effective exchange rate divided by a price
deflator or index of costs (Schmitz et al. 2012). It aims to assess a country's
competitiveness (in terms of price or cost) relative to its principal partners and
competitors in international markets. Referring to the Bank for International
Settlements (2019), “Real effective exchange rates are calculated as weighted
averages of bilateral exchange rates adjusted by relative consumer prices”.
Changes in competitiveness depend on exchange rate variations as well as on
inflation trend. An increase of the index means competitiveness deterioration.
To maintain its competitiveness, each country must maintain constant or
decrease its REER. Or, this rate depends on exchange rates and both domestic
and world market inflation. Faced with a free floating exchange rate system,
and in order to maintain stable REERs, countries must control inflation rates

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