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This paper empirically investigates the nature of exchange rate volatility The exchange rate is a key financial variable that affects decisions made by foreign exchange investors, exporters, importers, bankers, businesses, financial institutions, etc. The exchange rates could display higher volatility because of several factors such as deviation from fundamentals, excessive speculative activities, macroeconomic shocks, or other global and domestic news. Reserve Bank of India intervenes in the foreign exchange market to maintain orderly market conditions. The exchange rate volatility has been significantly negative in the short run rather than higher exchange rate fluctuation trends. The study uses monthly data on Rupee-US Dollar bilateral exchange rate. The empirical analysis has been carried out for the period between Jan 2011 and Sep 2013. The foreign exchange rate volatility of Indian rupee against US Dollar was investigated by using GARCH (1,1) model. Present study uses a model to explain the Indian foreign exchange rate volatility.
Keywords: Exchange Rate Volatility, Foreign Exchange Rate, Monetary Policy, ARCH/GARCH Models, Forecasting.
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Introduction
The foreign exchange rate is the rate at which one currency (say Re) is exchanged for another (say dollar). Exchange rate, is the price of one currency in terms of another currency. The exchange rate between the Rupee and dollar refers to the number of rupees required to purchase a dollar. Thus the exchange rate between the Rupee and the dollar from the Indian viewpoint is expressed as Rs.62.2=$1.lt has a great impact on the volume of foreign trade and investment. We study, with daily and monthly data sets, the impact on exchange rate level using high-frequency data on Rupee returns against the dollar and we construct model-free estimates of daily exchange rate volatility. Volatility of the exchange rates of developing countries is one of the main sources of economic instability around the world. Exchange rate volatility is defined as the risk associated with unexpected movements in the exchange rate. Exchange rate volatility is a measure of the fluctuations in an exchange rate. It is also known as a measure of risk.
The volatility of exchange rates is the source of exchange rates risk and has certain implications on the volume of international trade and consequently on the balance of payments. Operating on a...