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Testing Uncovered Interest Parity: A Continuous-Time Approach

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  • Antonio Diez de los Rios
  • Enrique Sentana

Abstract

Nowadays researchers can choose the sampling frequency of exchange rates and interest rates. If the number of observations per contract period is large relative to the sample size, standard GMM asymptotic theory provides unreliable inferences in UIP regression tests. We specify a bivariate continuous-time model for exchange rates and forward premia robust to temporal aggregation, unlike the discrete time models in the literature. We obtain the UIP restrictions on the continuous-time model parameters, which we estimate efficiently, and propose a novel specification test that compares estimators at different frequencies. Our empirical results based on correctly specified models reject UIP.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 07-53.

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Length: 44 pages
Date of creation: 2007
Date of revision:
Handle: RePEc:bca:bocawp:07-53

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Keywords: Exchange rates; Econometric and statistical methods;

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Citations

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Cited by:
  1. Enrique Sentana & Francisco Penaranda, 2004. "Spanning Tests in Return and Stochastic Discount Factor Mean-Variance Frontiers: A Unifying Approach," FMG Discussion Papers dp497, Financial Markets Group.
  2. Corrado Macchiarelli, 2013. "On the Joint Test of the Uncovered Interest Parity and the Ex-ante Purchasing Power Parity," Review of International Economics, Wiley Blackwell, vol. 21(3), pages 519-535, 08.
  3. Antonio Diez de los Rios, 2013. "A New Linear Estimator for Gaussian Dynamic Term Structure Models," Working Papers 13-10, Bank of Canada.

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