Exchange rate forecasting is best left to private sector

SIR — On April 28 you published an article entitled “Does market sentiment override determining shilling value?” by Mr. Andrew R. Ojede. The article carried inaccuracies which need correction. First, it is not correct that Bank of Uganda’s forecast methods stop at economic fundamentals. The analysis covers both fundamentals and non-fundamental factors, including market sentiments and the so-called technicals. Technical analysis is particularly interesting as it ignores the economic fundamentals and focuses on exchange rate movement patterns to forecast the direction of the exchange rate. The non-fundamentals are useful in forecasting short-term movements in the exchange rate. Fundamental analysis is most useful in forecasting the long-term exchange rate path. In the short run, exchange rates tend to overshoot the levels which can be explained by the fundamental. In a nutshell, non-fundamentals determine the short-term movements along the long-term fundamentals- driven path. Secondly, models are presented in Ojede’s article as the answer to the forecasting challenge. This is incorrect. Models are what they are, abstractions from reality. The real world is too complex to analyse and is therefore conveniently simplified through assumptions that typically hold some factors and the relationships between other constants. This is not always the case. In the real world where where the Bank of Uganda operates, it is always advisable to take a step back and question the output of the model. Not that models are not useful. They are, only that we ignore their shortcomings to our peril.
Thirdly, the results of the analyses that the bank carries out are strictly for internal use and are not put in the public domain. To do so in a liberalised market environment would complicate the conduct of monetary and exchange rate policy. The area of exchange rate forecasting for the consumption of the general public is better left to the private sector.

E.B. Kasozi
Director, External Operations
Bank of Uganda