Nonlinearity and time-variation in the monetary model of exchange rates

► There are nonlinear relationships between macroeconomic fundamentals and exchange rates. ► Inflation differentials with respect to the US inflation drive the nonlinearity in the analysis of monetary models for the data from Germany, Canada, the UK, France and Italy. ► Taking nonlinearity into account is important in modeling both short- and long-term dynamic relationships of the variables in monetary models of exchange rate.