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Excess Returns in a Small Open Economy


  • Gruen, David W R
  • Smith, Jeremy


This paper presents detailed analysis of a very unusual event--a recent six-year period during which big excess returns were earned on the short-term interest-bearing assets of a small open economy: Australia. A risk premium does not explain the excess return. Rather than requiring a risk premium, market participants continually expected significant real depreciation of the Australian dollar, despite the fact that on average it appreciated in real terms. The authors' results may be a consequence of the foreign exchange market only gradually learning about the changed nature of the world capital market in the 1980s. Copyright 1994 by The Economic Society of Australia.

Suggested Citation

  • Gruen, David W R & Smith, Jeremy, 1994. "Excess Returns in a Small Open Economy," The Economic Record, The Economic Society of Australia, vol. 70(211), pages 381-396, December.
  • Handle: RePEc:bla:ecorec:v:70:y:1994:i:211:p:381-96

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    References listed on IDEAS

    1. Boyer, Russell S, 1978. "Optimal Foreign Exchange Market Intervention," Journal of Political Economy, University of Chicago Press, vol. 86(6), pages 1045-1055, December.
    2. Daniel, Betty C., 1986. "Monetary aggregate versus interest rate rules," Journal of Macroeconomics, Elsevier, vol. 8(1), pages 75-86.
    3. Dornbusch, Rudiger, 1976. "Expectations and Exchange Rate Dynamics," Journal of Political Economy, University of Chicago Press, vol. 84(6), pages 1161-1176, December.
    4. Turnovsky, Stephen J., 1984. "Exchange market intervention under alternative forms of exogenous disturbances," Journal of International Economics, Elsevier, vol. 17(3-4), pages 279-297, November.
    5. Geoffrey Woglom, 1979. "Rational Expectations and Monetary Policy in a Simple Macroeconomic Model," The Quarterly Journal of Economics, Oxford University Press, vol. 93(1), pages 91-105.
    6. Glenn Stevens & Susan Thorp & John Anderson, 1987. "The Australian Demand Function for Money: Another Look at Stability," RBA Research Discussion Papers rdp8701, Reserve Bank of Australia.
    7. Matthew B. Canzoneri & Dale W. Henderson & Kenneth S. Rogoff, 1983. "The Information Content of the Interest Rate and Optimal Monetary Policy," The Quarterly Journal of Economics, Oxford University Press, vol. 98(4), pages 545-566.
    8. Adrian Blundell-Wignall & Susan Thorp, 1987. "Money Demand, Own Interest Rates and Deregulation," RBA Research Discussion Papers rdp8703, Reserve Bank of Australia.
    9. Hegji, Charles, 1986. "Optimal monetary policy and the lag structure of disturbances," Journal of Macroeconomics, Elsevier, vol. 8(3), pages 297-312.
    10. L. I. Hogan & D. T. Nguyen, 1987. "Exchange Rate Target Zones And The Conduct Of Monetary Policy: An Australian Perspective," Economic Papers, The Economic Society of Australia, vol. 6(3), pages 48-64, September.
    11. Barro, Robert J., 1976. "Rational expectations and the role of monetary policy," Journal of Monetary Economics, Elsevier, vol. 2(1), pages 1-32, January.
    12. William Poole, 1970. "Optimal Choice of Monetary Policy Instruments in a Simple Stochastic Macro Model," The Quarterly Journal of Economics, Oxford University Press, vol. 84(2), pages 197-216.
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    Cited by:

    1. Palle Andersen & David Gruen, 1995. "Macroeconomic Policies and Growth," RBA Annual Conference Volume,in: Palle Andersen & Jacqueline Dwyer & David Gruen (ed.), Productivity and Growth Reserve Bank of Australia.
    2. Smith, Jeremy & Yadav, Sanjay, 1996. "A comparison of alternative covariance matrices for models with over-lapping observations," Journal of International Money and Finance, Elsevier, vol. 15(5), pages 813-823, October.
    3. Tom Crowards, 2002. "Defining the category of 'small' states," Journal of International Development, John Wiley & Sons, Ltd., vol. 14(2), pages 143-179.
    4. Dungey, Mardi & Pagan, Adrian, 2000. "A Structural VAR Model of the Australian Economy," The Economic Record, The Economic Society of Australia, vol. 76(235), pages 321-342, December.

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