In many branches of economics, there is a significant divergence between theory and reality. This is especially true of exchange rate economics, where empirical evidence suggests that theory is of little use in explaining and forecasting exchange rates. Basically, currency traders may fare better flipping a coin than using theories of interest rate parity and purchasing power parity as basis for their trades. In contrast, data on foreign exchange market-makers order flow has proven to be extremely insightful. The books of Citibank, for example, can be used to make reasonably accurate predictions for the future direction of exchange rates, based on the ratio of buyers to sellers. Technical analysts rejoice! The Economist reports:

The information in today’s order flow will still be percolating through the market weeks afterwards…Citibank’s order flow can predict almost 16% of the dollar’s bobbing and weaving four weeks hence.

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