Uncovered interest parity: it works, but not for long
AbstractThe failure of uncovered interest parity can be ascribed to the existence of a risk premium. The size of this risk premium may shrink to zero over sufficiently small intervals of time. In contrast, because no interest is paid on intradaily positions and interest is instead paid discretely at the point when a position is rolled over from one day to the next, the size of the interest differential remains fixed over any interval that covers the time of the discrete interest payment. This is true no matter how short that interval is. Using a large dataset of high frequency exchange rate data, we run uncovered interest parity regressions over different time intervals. We replicate the rejection of the uncovered interest parity hypothesis with daily data, but find results that are consistently much more supportive of the uncovered interest parity hypothesis over short windows of intradaily data that span the time of the discrete interest payment.
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Bibliographic InfoPaper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 752.
Date of creation: 2003
Date of revision:
Other versions of this item:
- Chaboud, Alain P. & Wright, Jonathan H., 2005. "Uncovered interest parity: it works, but not for long," Journal of International Economics, Elsevier, vol. 66(2), pages 349-362, July.
- NEP-ALL-2003-03-03 (All new papers)
- NEP-FMK-2003-03-03 (Financial Markets)
- NEP-IFN-2003-03-03 (International Finance)
- NEP-RMG-2003-03-03 (Risk Management)
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