Predictive Modeling to Forecast International Reserves for Malaysia and Singapore

Econometric Methods

Econometric Methods

Submitted By:

Pooja Binoy

Submitted By:

Pooja Binoy

Title: Predictive Modeling to Forecast International Reserves for Malaysia and Singapore

Title: Predictive Modeling to Forecast International Reserves for Malaysia and Singapore

Models to Predict International Reserves – Malaysia and Singapore

Assignment 1

Background

International liquidity is considered that stock of asset which is available to a country’s monetary authorities to cover payments imbalances or to influence the exchange value of the currency of the country. The standard level of international reserve that provides the international liquidity consists of the following:

i. Gold

ii. Short-term foreign exchange holding in convertible currencies

iii. Special drawing rights (SDR)

iv. Reserve position in International Monetary Fund

Thus we find that the level of reserve can be considered as a stock of reserve which represents the purchasing power of the country as a whole and it remains at the disposal of the monetary authorities which can be used to moderate the domestic economic impact of the decline of foreign exchange receipt.

There are several theories regarding the formation of international reserve (IR). One theory suggests that IR depends on gross domestic product (GDP), the ratio of imports to GDP (M/Y), and the ratio of exports to imports (X/M). Accordingly, Model 1 is formed and it is a log-linear one.

Another parallel theory is that IR depends on GDP, the ratio of domestic price level to foreign price level (CPI/CPI*) and the ratio of domestic interest rate to foreign interest rate (Rd/Rf). This is Model 2.

Therefore, the two models are formulated as:

Model 1:

ln R = bo + b1 ln GDP + b2 ln (M/Y) +b3 ln (X/M) + µ

Model 2:

R = a0 + a1 GDP + a2 (CPI/CPI*) + a3 (Rd/Rf) + ε

Data Source

International Financial Statistics, IMF, Year Book 2009

The countries we looked at are Malaysia and...