Improving the Forecast Accuracy of Oil-Exchange Rate Nexus in GCC Countries

Abstract

This paper renders new evidence on the predictability of GCC dollar exchange rates using crude oil prices relying on the approach of Westerlund [1][2] that accounts for salient features of the predictor. The results show the presence of significant in-sample predictability of exchange rates using crude oil prices (Brent and WTI prices) across the GCC countries. The results of forecast evaluation based on the root mean square error (RMSE), Campbell-Thompson (C-T) statistic and Diebold-Mariano (D-M) statistic are rather mixed. The superior forecast performance of the oil-based exchange rate model is highly sensitive to the choice of benchmark time-series models. We, however, conclude the overwhelming forecast performance of time-series models (namely, AR, ARMA, and ARFIMA) over our oil-based exchange rate model in predicting exchange rates across the GCC region.