This file is part of IDEAS, which uses RePEc data


[ Papers | Articles | Software | Books | Chapters | Authors | Institutions | JEL Classification | NEP reports | Search | New papers by email | Author registration | Rankings | Volunteers | FAQ | Blog | Help! ]

Can Perpetual Learning Explain the Forward Premium Puzzle?

Author info | Abstract | Publisher info | Download info | Related research | Statistics
Author Info
George W. Evans ()
Avik Chakraborty (Department of Economics, University of Tennessee)

Additional information is available for the following registered author(s):

Abstract

Under rational expectations and risk neutrality the linear projection of exchange rate change on the forward premium has a unit coefficient. However, empirical estimates of this coefficient are significantly less than one (and often negative). We investigate whether replacing rational expectations by discounted least squares (or "perpetual") learning can explain the result. We calculate the asymptotic bias under perpetual learning and show that there is a negative bias that becomes strongest when the fundamentals are strongly persistent, i.e. close to a random walk. Simulations confirm that adaptive learning is potentially able to explain the forward premium puzzle.

Download Info
To download:

If you experience problems downloading a file, check if you have the proper application to view it first. Information about this may be contained in the File-Format links below. In case of further problems read the IDEAS help file. Note that these files are not on the IDEAS site. Please be patient as the files may be large.

File URL: http://economics.uoregon.edu/papers/UO-2006-8_Evans_Perpetual.pdf
File Format: application/pdf
File Function:
Download Restriction: no

Publisher Info
Paper provided by University of Oregon Economics Department in its series University of Oregon Economics Department Working Papers with number 2006-8.

Download reference. The following formats are available: HTML, plain text, BibTeX, RIS (EndNote), ReDIF
Length: 37
Date of creation: 30 Jun 2006
Date of revision: 20 Aug 2006
Handle: RePEc:ore:uoecwp:2006-8

Contact details of provider:
Postal: 1285 University of Oregon, 435 PLC, Eugene, OR 97403-1285
Phone: (541) 346-4661
Fax: (541) 346-1243
Email:
Web page: http://economics.uoregon.edu/
More information through EDIRC

For technical questions regarding this item, or to correct its listing, contact: (Bill Harbaugh).

Related research
Keywords: Learning exchange rates forward premium.

Other versions of this item:

Find related papers by JEL classification:
D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search, Learning, and Information
D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
F31 - International Economics - - International Finance - - - Foreign Exchange
G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

This paper has been announced in the following NEP Reports:

References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Brock, William A. & Hommes, Cars H., 1998. "Heterogeneous beliefs and routes to chaos in a simple asset pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1235-1274, August. [Downloadable!] (restricted)
  2. Froot, Kenneth A & Thaler, Richard H, 1990. "Foreign Exchange," Journal of Economic Perspectives, American Economic Association, vol. 4(3), pages 179-92, Summer. [Downloadable!] (restricted)
  3. George W. Evans & Seppo Honkapohja, 1993. "Adaptive forecasts, hysteresis, and endogenous fluctuations," Economic Review, Federal Reserve Bank of San Francisco, pages 3-13. [Downloadable!]
  4. James Bullard & Kaushik Mitra, 2002. "Learning about monetary policy rules," Working Papers 2000-001, Federal Reserve Bank of St. Louis. [Downloadable!]
    Other versions:
  5. Avik Chakraborty, 2004. "Learning, the Forward Premium Puzzle and Market Efficiency," University of Oregon Economics Department Working Papers 2005-4, University of Oregon Economics Department, revised 01 Oct 2004. [Downloadable!]
  6. Meese, Richard A. & Rogoff, Kenneth, 1983. "Empirical exchange rate models of the seventies : Do they fit out of sample?," Journal of International Economics, Elsevier, vol. 14(1-2), pages 3-24, February. [Downloadable!] (restricted)
  7. Athanasios Orphanides & John C. Williams, 2003. "Imperfect Knowledge, Inflation Expectations, and Monetary Policy," NBER Working Papers 9884, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  8. De Long, J Bradford & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1990. "Noise Trader Risk in Financial Markets," Journal of Political Economy, University of Chicago Press, vol. 98(4), pages 703-38, August. [Downloadable!] (restricted)
    Other versions:
  9. Branch, William A. & Evans, George W., 2006. "A simple recursive forecasting model," Economics Letters, Elsevier, vol. 91(2), pages 158-166, May. [Downloadable!] (restricted)
    Other versions:
  10. Charles Engel and Kenneth D. West, 2005. "Exchange Rates and Fundamentals," Journal of Political Economy, University of Chicago Press, vol. 113(3), pages 485-517, June.
    Other versions:
  11. Frenkel, Jacob A, 1976. " A Monetary Approach to the Exchange Rate: Doctrinal Aspects and Empirical Evidence," Scandinavian Journal of Economics, Blackwell Publishing, vol. 78(2), pages 200-224.
  12. Nelson Mark & Yangru Wu, 1998. "Rethinking Deviations from Uncovered Interest Parity: The Role of Covariance Risk and Noise," Working Papers 98-05, Ohio State University, Department of Economics. [Downloadable!]
    Other versions:
  13. Stephen E. Haynes & Avik Chakraborty, 2005. "Econometrics of the forward premium puzzle," University of Oregon Economics Department Working Papers 2005-18, University of Oregon Economics Department. [Downloadable!]
  14. George W. Evans & Seppo Honkapohja, 2003. "Expectations and the Stability Problem for Optimal Monetary Policies," Review of Economic Studies, Blackwell Publishing, vol. 70(4), pages 807-824, October. [Downloadable!] (restricted)
    Other versions:
  15. Lewis, Karen K, 1989. "Changing Beliefs and Systematic Rational Forecast Errors with Evidence from Foreign Exchange," American Economic Review, American Economic Association, vol. 79(4), pages 621-36, September. [Downloadable!] (restricted)
  16. Marcet, Albert & Sargent, Thomas J., 1989. "Convergence of least squares learning mechanisms in self-referential linear stochastic models," Journal of Economic Theory, Elsevier, vol. 48(2), pages 337-368, August. [Downloadable!] (restricted)
  17. Evans, George W. & Ramey, Garey, 2006. "Adaptive expectations, underparameterization and the Lucas critique," Journal of Monetary Economics, Elsevier, vol. 53(2), pages 249-264, March. [Downloadable!] (restricted)
    Other versions:
  18. Timmermann, Allan, 1996. "Excess Volatility and Predictability of Stock Prices in Autoregressive Dividend Models with Learning," Review of Economic Studies, Blackwell Publishing, vol. 63(4), pages 523-57, October. [Downloadable!] (restricted)
    Other versions:
  19. James Bullard & Stefano Eusepi, 2005. "Did the Great Inflation Occur Despite Policymaker Commitment to a Taylor Rule?," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 8(2), pages 324-359, April. [Downloadable!] (restricted)
    Other versions:
  20. Charles Engel, 1996. "The Forward Discount Anomaly and the Risk Premium: A Survey of Recent Evidence," NBER Working Papers 5312, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  21. Kenneth Kasa, 2004. "Learning, Large Deviations, And Recurrent Currency Crises," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 45(1), pages 141-173, 02. [Downloadable!] (restricted)
    Other versions:
  22. Albert Marcet & Juan P. Nicolini, 2003. "Recurrent Hyperinflations and Learning," American Economic Review, American Economic Association, vol. 93(5), pages 1476-1498, December. [Downloadable!]
    Other versions:
  23. Bruce McGough, 2006. "Shocking Escapes," Economic Journal, Royal Economic Society, vol. 116(511), pages 507-528, 04. [Downloadable!] (restricted)
    Other versions:
  24. Timmermann, Allan G, 1993. "How Learning in Financial Markets Generates Excess Volatility and Predictability in Stock Prices," The Quarterly Journal of Economics, MIT Press, vol. 108(4), pages 1135-45, November. [Downloadable!] (restricted)
  25. Mussa, Michael, 1976. " The Exchange Rate, the Balance of Payments and Monetary and Fiscal Policy under a Regime of Controlled Floating," Scandinavian Journal of Economics, Blackwell Publishing, vol. 78(2), pages 229-48.
  26. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November. [Downloadable!] (restricted)
Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Avik Chakraborty, 2004. "Learning, the Forward Premium Puzzle and Market Efficiency," University of Oregon Economics Department Working Papers 2005-4, University of Oregon Economics Department, revised 01 Oct 2004. [Downloadable!]
  2. George W. Evans & Seppo Honkapohja, 2008. "Learning and Macroeconomics," University of Oregon Economics Department Working Papers 2008-3, University of Oregon Economics Department. [Downloadable!]
Statistics
Access and download statistics

Did you know? Over five million full texts a year are downloaded through IDEAS.

This page was last updated on 2008-11-16.


This information is provided to you by IDEAS at the Department of Economics, College of Liberal Arts and Sciences, University of Connecticut using RePEc data on a server sponsored by the Society for Economic Dynamics.