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The Forward Rate Unbiasedness Hypothesis Revisited: Evidence from a New Test

Author

Listed:
  • Natalya Delcoure

    (Louisiana Tech University)

  • John T. Barkoulas

    (University of Tennessee)

  • Christopher F. Baum

    (Boston College
    DIW Berlin)

  • Atreya Chakraborty

    (University of Massachusetts-Boston)

Abstract

Under conditions of risk neutrality and rational expectations in the foreign exchange market, there should be a one-to-one relationship between the forward rate and the corresponding future spot rate. However, cointegration-based tests of the unbiasedness hypothesis of the forward rate have produced mixed findings. In order to exploit significant cross-sectional dependencies, we test the unbiasedness hypothesis using a new multivariate (panel) unit-root test, the Johansen likelihood ratio (JLR) test, which offers important methodological advantages over alternative standard panel unit-root tests. When applied to a data set of eight major currencies in the post-Bretton Woods era, the JLR test provides strong and robust evidence in support of a unitary cointegrating vector between forward and corresponding future spot rates. However, the orthogonality condition is satisfied only for three major currencies.

Suggested Citation

  • Natalya Delcoure & John T. Barkoulas & Christopher F. Baum & Atreya Chakraborty, 2000. "The Forward Rate Unbiasedness Hypothesis Revisited: Evidence from a New Test," Boston College Working Papers in Economics 464, Boston College Department of Economics.
    • Handle: RePEc:boc:bocoec:464
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    References listed on IDEAS

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    Cited by:

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    3. Leo Krippner, 2006. "A Yield Curve Perspective on Uncovered Interest Parity," Working Papers in Economics 06/16, University of Waikato.

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    More about this item

    Keywords

    Forward rate unbiasedness; panel unit-root tests; cointegration;
    All these keywords.

    JEL classification:

    • F30 - International Economics - - International Finance - - - General
    • F31 - International Economics - - International Finance - - - Foreign Exchange

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