IDEAS home Printed from https://ideas.repec.org/a/aea/aejmac/v4y2012i3p33-65.html

Ambiguity Aversion: Implications for the Uncovered Interest Rate Parity Puzzle

Author

Listed:
  • Cosmin Ilut

Abstract

High interest rate currencies tend to appreciate in the future relative to low interest rate currencies instead of depreciating as uncovered interest parity (UIP) predicts. I construct a model of exchange rate determination in which ambiguity-averse agents face a dynamic filtering problem featuring signals of uncertain precision. Solving a max-min problem, agents act upon a worst-case signal precision and systematically underestimate the hidden state that controls payoffs. Thus, on average, agents next periods perceive positive innovations, which generates an upward re-evaluation of the strategy's profitability and implies ex post departures from UIP. The model also produces predictable expectational errors, negative skewness, and time-series momentum for currency speculation payoffs. (JEL D81, F31, G15)

Suggested Citation

  • Cosmin Ilut, 2012. "Ambiguity Aversion: Implications for the Uncovered Interest Rate Parity Puzzle," American Economic Journal: Macroeconomics, American Economic Association, vol. 4(3), pages 33-65, July.
    • Handle: RePEc:aea:aejmac:v:4:y:2012:i:3:p:33-65
    DOI: 10.1257/mac.4.3.33
    as

    Download full text from publisher

    File URL: http://www.aeaweb.org/articles.php?doi=10.1257/mac.4.3.33
    Download Restriction: no
    File URL: http://www.aeaweb.org/aej/mac/data/2011-0075_data.zip
    Download Restriction: no
    File URL: http://www.aeaweb.org/aej/mac/app/2011-0075_app.pdf
    Download Restriction: Access to full text is restricted to AEA members and institutional subscribers.
    File URL: https://libkey.io/10.1257/mac.4.3.33?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    Other versions of this item:

    More about this item

    JEL classification:

    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

    Lists

    This item is featured on the following reading lists, Wikipedia, or ReplicationWiki pages:
    1. Ambiguity Aversion: Implications for the Uncovered Interest Rate Parity Puzzle (AEJ:MA 2012) in ReplicationWiki

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:aea:aejmac:v:4:y:2012:i:3:p:33-65. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no bibliographic references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Michael P. Albert (email available below). General contact details of provider: https://edirc.repec.org/data/aeaaaea.html .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.