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Random risk aversion and the cost of eliminating the foreign exchange risk of the Euro

Author

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  • Samih A Azar

    () (Haigazian University)

Abstract

This paper answers the following questions. If the Euro foreign exchange risk is given, what is the cost of eliminating such a risk? How does risk aversion affect this cost? What is the relation between the insurance premium on the Euro and this cost? Is it possible to find out the level of risk aversion by looking upon actual risk-free yields? If risk aversion is random, how do risk-free yields move with the return on the Euro currency? Economists usually take for granted that preferences are stable. By contrast, business news networks mention frequently changing risk appetite, or changing investor sentiment, in order to explain market behavior. This paper shows that it is worthwhile to presume that risk aversion is random, because such randomness provides direct answers to the questions raised above.

Suggested Citation

  • Samih A Azar, 2010. "Random risk aversion and the cost of eliminating the foreign exchange risk of the Euro," Economics Bulletin, AccessEcon, vol. 30(1), pages 157-168.
  • Handle: RePEc:ebl:ecbull:eb-09-00698
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    File URL: http://www.accessecon.com/Pubs/EB/2010/Volume30/EB-10-V30-I1-P14.pdf
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    References listed on IDEAS

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    1. Danthine, Jean-Pierre & Donaldson, John B., 2014. "Intermediate Financial Theory," Elsevier Monographs, Elsevier, edition 3, number 9780123865496.
    2. Hansen, Bruce E., 2000. "Testing for structural change in conditional models," Journal of Econometrics, Elsevier, vol. 97(1), pages 93-115, July.
    3. Andrews, Donald W K & Ploberger, Werner, 1994. "Optimal Tests When a Nuisance Parameter Is Present Only under the Alternative," Econometrica, Econometric Society, vol. 62(6), pages 1383-1414, November.
    4. Lars Ljungqvist & Thomas J. Sargent, 2004. "Recursive Macroeconomic Theory, 2nd Edition," MIT Press Books, The MIT Press, edition 2, volume 1, number 026212274x, January.
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    More about this item

    Keywords

    The Euro; foreign exchange risk; expected utility; cost of risk; risk aversion; risk compensation; insurance premium; risk-free yields; Monte Carlo simulations; bootstrap sampling; EU financial markets;

    JEL classification:

    • F3 - International Economics - - International Finance
    • G0 - Financial Economics - - General

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