Time varying forex market inefficiency

Camiel de Koning and Stefan Straetmans
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Camiel de Koning: Vrije Universiteit Amsterdam, Faculteit der Economische Wetenschappen en Econometrie (Free University Amsterdam, Faculty of Economics Sciences, Business Administration and Economitrics

No 63, Serie Research Memoranda from VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics

Abstract: Researchers gathered abundant evidence on foreign exchange market inefficiency by regressing excess returns on lagged forward premia but they rarely investigated coefficient instability and its consequences for market efficiency testing. We allow for endogenous changes in the parameters when estimating by using rolling regressions and a Kalman Filter algorithm. Time variation in the regression coefficients is found to be statistically significant. If the regression parameters have changed over time, estimation methods that assume constant parameters may be inappropriate. We argue that the observed time variation in the forward premium slope is so large that a negative OLS slope for the post-Bretton Woods sample size is not improbable.

JEL-codes: E43 (search for similar items in EconPapers)
Date: 1998
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Persistent link: https://EconPapers.repec.org/RePEc:vua:wpaper:1998-63

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