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The determinants of the deviations from the interest rate parity condition

Uluc Aysun () and Sanglim Lee ()

No 2013-03, Working Papers from University of Central Florida, Department of Economics

Abstract: This paper shows that the deviation from the uncovered interest parity (UIP) condition is equally large in advanced and emergingmarket 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 is only observed for emerging market economies.

Keywords: Uncovered Interest Rate Parity; Forward Premium Puzzle; Time Varying Risk Premium (search for similar items in EconPapers)
JEL-codes: E32 E44 F31 F33 F44 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-cba, nep-dge, nep-mac, nep-mon, nep-opm, nep-sea and nep-spo
Date: 2013-08
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