Richard T. Baillie and Tim Bollerslev (1989) have recently argued that nominal dollar spot exchange rates are cointegrated. Here the authors examine an immediate implication of their finding, namely, that cointegration implies an error-correction representation yielding forecasts superior to those from a martingale benchmark in light of a large earlier literature highlighting the predictive superiority of the martingale. In an out-of-sample forecasting exercise, the authors find the martingale model to be superior. They then perform a battery of improved cointegration tests and find that the evidence for cointegration is much less strong than previously thought, a result consistent with the outcome of the forecasting exercise.

Baillie and Bollerslev (1989) have recently argued that nominal dollar spot exchange rates are cointegrated. Here we examine an immediate implication of their finding, namely, that cointegration implies an error‐correction representation yielding forecasts superior to those from a martingale benchmark, in light of a large earlier literature highlighting the predictive superiority of the martingale. In an out‐of‐sample forecasting exercise, we find the martingale model to be superior. We then perform a battery of improved cointegration tests and find that the evidence for cointegration is much less strong than previously thought, a result consistent with the outcome of the forecasting exercise.

Baillie and Bollerslev (1989) have recently argued that nominal dollar spot exchange rates are cointegrated. Here we examine an immediate implication of their finding, namely, that cointegration implies an error-correction representation yielding forecasts superior to those from a martingale benchmark, in light of a large earlier literature highlighting the predictive superiority of the martingale. In an out-of-sample forecasting exercise, we find the martingale model to be superior. We then perform a battery of improved cointegration tests and find that the evidence for cointegration is much less strong than previously thought, a result consistent with the outcome of the forecasting exercise.