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Common factors of the exchange risk premium in emerging European markets

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  • Byrne, Joseph P
  • Nagayasu, Jun

Abstract

Existing empirical evidence suggests that the Uncovered Interest Rate Parity (UIRP) condition may not hold due to an exchange risk premium. For a panel data set of eleven emerging European economies we decompose this exchange risk premium into an idiosyncratic (country-specific) element and a common factor using a principal components approach. We present evidence of stationary idiosyncratic and common factors. This result leads to the conclusion of a stationary risk premium for these countries, which is consistent with previous studies often documenting a stationary premium in developed countries. Furthermore, we report that the variation in the premium is largely attributable to a common factor influenced by economic developments in the United States.

Suggested Citation

  • Byrne, Joseph P & Nagayasu, Jun, 2011. "Common factors of the exchange risk premium in emerging European markets," MPRA Paper 31393, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:31393
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    Cited by:

    1. Mohsen Bahmani‐Oskooee & Tsangyao Chang & Zahra (Mila) Elmi & Omid Ranjbar, 2019. "Real Interest Rate Parity And Fourier Quantile Unit Root Test," Bulletin of Economic Research, Wiley Blackwell, vol. 71(3), pages 348-358, July.
    2. Jun Nagayasu, 2013. "Co-movements in real effective exchange rates: evidence from the dynamic hierarchical factor model," Working Papers 1318, University of Strathclyde Business School, Department of Economics.
    3. Nagayasu, Jun, 2012. "The Forward Premium Puzzle And Risk Premiums," MPRA Paper 42472, University Library of Munich, Germany.
    4. Bhatta, Guna Raj & Nepal, Rabindra & Harvie, Charles & Jayanthakumaran, Kankesu, 2022. "Testing for the uncovered interest parity condition in a small open economy: A state space modelling approach," Journal of Asian Economics, Elsevier, vol. 82(C).
    5. Lorenzo Pozzi & Barbara Sadaba, 2017. "Detecting Scapegoat Effects in the Relationship Between Exchange Rates and Macroeconomic Fundamentals," Staff Working Papers 17-22, Bank of Canada.

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    More about this item

    Keywords

    Uncovered Interest Rate Parity; Emerging Economies; Exchange Risk Premiums; Common Factors;
    All these keywords.

    JEL classification:

    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics

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