Handbook of Exchange Rates

3.5 Conclusion

Micro-based research over the past has made some significant progress toward providing exchange-rate models with empirically relevant microfoundations but much remains to be done. Although empirical research examines the role of order flow in exchange-rate determination spans many currencies, trading mechanisms, and time periods, to date most theoretical research has focused on understanding the behavior of major currency markets with lots of trading activity, such as the USD/EUR and USD/JPY markets. Existing models are less well suited for studying the behavior of exchange rates between other currencies that trade with much less liquidity. Since the currencies of most countries fall into this category, adapting micro-based models to these markets is an important priority for future research. The models also need to expand their focus beyond the spot markets. Trade in forward contracts, currency swaps, and other exchange-rate derivatives account for a large share of FX trading activity, but this portion of the FX market has yet to be studied from a micro-based perspective. This will surely change as data from electronic trading systems becomes more accessible to researchers. Finally, micro-based models hold significant potential for studying the onset and effects of the 2008 world financial crisis on exchange rates and international financial markets.