Can time-varying risk premiums explain the excess returns in the interest rate parity condition?

    Authors

    U. Aysun;S. Lee

    Comments

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    Abbreviated Journal Title

    Emerg. Mark. Rev.

    Keywords

    Uncovered interest rate parity; Forward premium puzzle; Time-varying; risk premium; UNCOVERED INTEREST PARITY; EMERGING MARKETS; PREDICTABILITY; PUZZLES; MODELS; TESTS; HOLD; US; Business, Finance; Economics

    Abstract

    This paper shows that the deviations from the UIP condition are equally large in advanced and emerging market economies. Using monthly data, and a GARCH-M model we find that a large share of these deviations in both country groups are explained by time-varying risk premium. To more clearly identify risk premium shocks, we then estimate a two-country, New Keynesian, DSGE model using a Bayesian methodology and quarterly data. The results suggest that at the quarterly frequency, the large deviations from the UIP condition and the high explanatory power of risk premium are only observed for emerging market economies. (C) 2014 Elsevier B.V. All rights reserved.

    Journal Title

    Emerging Markets Review

    Volume

    18

    Publication Date

    1-1-2014

    Document Type

    Article

    Language

    English

    First Page

    78

    Last Page

    100

    WOS Identifier

    WOS:000335423800006

    ISSN

    1566-0141

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