Random Walk Expectations and the Forward Discount Puzzle

Philippe Bacchetta () and Eric van Wincoop ()

No 07.01, Working Papers from Swiss National Bank, Study Center Gerzensee

Abstract: Two well-known, but seemingly contradictory, features of exchange rates are that they are close to a random walk while at the same time exchange rate changes are predictable by interest rate dierentials. In this paper we investigate whether these two features of the data may in fact be related. In particular, we ask whether the predictability of exchange rates by interest dierentials naturally results when participants in the FX market adopt random walk expectations. We nd that random walk expectations can explain the forward premium puzzle, but only if FX portfolio positions are revised infrequently. In contrast, with frequent portfolio adjustment and random walk expectations, we nd that high interest rate currencies depreciate much more than what UIP would predict.

New Economics Papers: this item is included in nep-cba, nep-ifn and nep-mon
Date: 2007-01
View list of references View citations in EconPapers

Downloads: (external link)
http://www.szgerzensee.ch/fileadmin/Dateien_Anwend ... g_papers/wp-0701.pdf Full text (application/pdf)
None

Related works:
Working Paper: Random Walk Expectations and the Forward Discount Puzzle (2007)
Working Paper: Random Walk Expectations and the Forward Discount Puzzle (2007)
Working Paper: Random Walk Expectations and the Forward Discount Puzzle (2007)
Journal Article: Random Walk Expectations and the Forward Discount Puzzle (2007)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: http://EconPapers.repec.org/RePEc:szg:worpap:0701

Ordering information: This working paper can be ordered from
Studienzentrum Gerzensee, Postfach 21, 3115 Gerzensee
http://www.szgerzens ... ations/orderform.htm

The price is Free.

Access Statistics for this paper

More papers in Working Papers from Swiss National Bank, Study Center Gerzensee
Address: Studienzentrum Gerzensee, Postfach 21, 3115 Gerzensee
Series data maintained by Yves Ortiz ().