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On Time-Series Properties of Time-Varying Risk Premium in the Yen/Dollar Exchange Market

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  • Fabio Canova
  • Takatoshi Ito

Abstract

The purpose of this paper is to characterize the changes in risk premium in the 1980s. A five-variable vector autoregressive model (VAR) is constructed to calculate a risk premium series in the foreign exchange market. The risk premium series is volatile and time-varying. The hypothesis of no risk premium is strongly rejected for the entire sample and each of the two subsamples considered. Various tests using the constructed risk premium series suggest that a risk premium existed but it was neither constant nor stable over subsamples and that its volatility was considerably reduced after October 1982.

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Bibliographic Info

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 2678.

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Date of creation: Aug 1988
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Publication status: published as "The Time-Series Properties of the Risk Premium in the Yen/Dollar Exchange Market." From Journal of Applied Econometrics, Vol. 6, pp. 125-142, (1991) .
Handle: RePEc:nbr:nberwo:2678

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  1. Geweke, John F & Feige, Edgar L, 1979. "Some Joint Tests of the Efficiency of Markets for Forward Foreign Exchange," The Review of Economics and Statistics, MIT Press, vol. 61(3), pages 334-41, August.
  2. Domowitz, Ian & Hakkio, Craig S., 1985. "Conditional variance and the risk premium in the foreign exchange market," Journal of International Economics, Elsevier, vol. 19(1-2), pages 47-66, August.
  3. West, Kenneth D, 1988. "Asymptotic Normality, When Regressors Have a Unit Root," Econometrica, Econometric Society, Econometric Society, vol. 56(6), pages 1397-1417, November.
  4. Danny Quah & Jeffrey M. Wooldridge, 1988. "A Common Error in the Treatment of Trending Time Series," Working papers 483, Massachusetts Institute of Technology (MIT), Department of Economics.
  5. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
  6. Thomas Doan & Robert B. Litterman & Christopher A. Sims, 1986. "Forecasting and conditional projection using realistic prior distribution," Staff Report, Federal Reserve Bank of Minneapolis 93, Federal Reserve Bank of Minneapolis.
  7. Jeffrey A. Frankel & Kenneth A. Froot, 1986. "Short-term and long-term expectations of the yen/dollar exchange rate: evidence from survey data," International Finance Discussion Papers, Board of Governors of the Federal Reserve System (U.S.) 292, Board of Governors of the Federal Reserve System (U.S.).
  8. Hodrick, Robert J. & Srivastava, Sanjay, 1984. "An investigation of risk and return in forward foreign exchange," Journal of International Money and Finance, Elsevier, vol. 3(1), pages 5-29, April.
  9. Richard Meese & Kenneth Rogoff, 1983. "The Out-of-Sample Failure of Empirical Exchange Rate Models: Sampling Error or Misspecification?," NBER Chapters, in: Exchange Rates and International Macroeconomics, pages 67-112 National Bureau of Economic Research, Inc.
  10. Mark, Nelson C., 1985. "On time varying risk premia in the foreign exchange market: An econometric analysis," Journal of Monetary Economics, Elsevier, vol. 16(1), pages 3-18, July.
  11. Stulz, ReneM., 1981. "A model of international asset pricing," Journal of Financial Economics, Elsevier, vol. 9(4), pages 383-406, December.
  12. Hakkio, Craig, 1986. "Does the exchange rate follow a random walk? A Monte Carlo study of four tests for a random walk," Journal of International Money and Finance, Elsevier, vol. 5(2), pages 221-229, June.
  13. Hodrick, Robert J. & Srivastava, Sanjay, 1986. "The covariation of risk premiums and expected future spot exchange rates," Journal of International Money and Finance, Elsevier, vol. 5(1, Supple), pages S5-S21, March.
  14. Korajczyk, Robert A, 1985. "The Pricing of Forward Contracts for Foreign Exchange," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 93(2), pages 346-68, April.
  15. Hansen, Lars Peter, 1982. "Large Sample Properties of Generalized Method of Moments Estimators," Econometrica, Econometric Society, Econometric Society, vol. 50(4), pages 1029-54, July.
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Cited by:
  1. repec:dgr:uvatin:2097041 is not listed on IDEAS
  2. Charles Engel, 1995. "The Forward Discount Anomaly and the Risk Premium: A Survey of Recent Evidence," NBER Working Papers 5312, National Bureau of Economic Research, Inc.
  3. repec:dgr:uvatin:1997041 is not listed on IDEAS
  4. Kiani, Khurshid M., 2013. "Can signal extraction help predict risk premia in foreign exchange rates," Economic Modelling, Elsevier, vol. 33(C), pages 926-939.
  5. Zhiguang Wang & Prasad Bidarkota, 2012. "Risk premia in forward foreign exchange rates: a comparison of signal extraction and regression methods," Empirical Economics, Springer, vol. 42(1), pages 21-51, February.
  6. Vít Pošta, 2012. "Estimation of the Time-Varying Risk Premium in the Czech Foreign Exchange Market," Prague Economic Papers, University of Economics, Prague, vol. 2012(1), pages 3-17.
  7. Wahab, Mahmoud, 1997. "On risk, rationality and the predictive ability of European short-term adjusted yield spreads," Journal of International Money and Finance, Elsevier, vol. 16(5), pages 737-765, September.

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