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Econometric analysis of present value models when the discount factor is near one

  • West, Kenneth D.

This paper develops asymptotic econometric theory to help understand data generated by a present value model with a discount factor near one. A leading application is to exchange rate models. A key assumption of the asymptotic theory is that the discount factor approaches one as the sample size grows. The finite sample approximation implied by the asymptotic theory is quantitatively congruent with the modest departures from random walk behavior that are typically found and with imprecise estimation of a well-studied regression relating spot and forward exchange rates.

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File URL: http://www.sciencedirect.com/science/article/pii/S030440761200173X
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Article provided by Elsevier in its journal Journal of Econometrics.

Volume (Year): 171 (2012)
Issue (Month): 1 ()
Pages: 86-97

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Handle: RePEc:eee:econom:v:171:y:2012:i:1:p:86-97
Contact details of provider: Web page: http://www.elsevier.com/locate/jeconom

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  1. Amit Goyal & Ivo Welch, 2004. "A Comprehensive Look at the Empirical Performance of Equity Premium Prediction," Yale School of Management Working Papers amz2412, Yale School of Management, revised 01 Jan 2006.
  2. Charles Engel & Kenneth D. West, 2003. "Exchange rates and fundamentals," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  3. Adrien Verdelhan, 2006. "A Habit-Based Explanation of the Exchange Rate Risk Premium," 2006 Meeting Papers 872, Society for Economic Dynamics.
  4. Frankel, Jeff & Froot, Ken, 1986. "Using Survey Data to Test Standard Propositions Regarding Exchange Rate Expectations," Department of Economics, Working Paper Series qt1972q8wm, Department of Economics, Institute for Business and Economic Research, UC Berkeley.
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  8. Baillie, R.T. & Bollerslev, T., 1993. "The Long Memory of the Foreward Premium," Papers 9203, Michigan State - Econometrics and Economic Theory.
  9. Eric van Wincoop & Philippe Bacchetta, 2003. "Can Information Heterogeneity Explain the Exchange Rate Determination Puzzle?," NBER Working Papers 9498, National Bureau of Economic Research, Inc.
  10. Hansen, Lars Peter & Sargent, Thomas J., 1981. "A note on Wiener-Kolmogorov prediction formulas for rational expectations models," Economics Letters, Elsevier, vol. 8(3), pages 255-260.
  11. Bhar, Ramprasad & Kim, Suk-Joong & Pham, Toan M., 2004. "Exchange rate volatility and its impact on the transaction costs of covered interest rate parity," Japan and the World Economy, Elsevier, vol. 16(4), pages 503-525, December.
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  13. repec:ebl:ecbull:v:30:y:2010:i:1:p:115-129 is not listed on IDEAS
  14. Charles Engel & Nelson C. Mark & Kenneth D. West, 2008. "Exchange Rate Models Are Not As Bad As You Think," NBER Chapters, in: NBER Macroeconomics Annual 2007, Volume 22, pages 381-441 National Bureau of Economic Research, Inc.
  15. Robert F. Stambaugh, 1999. "Predictive Regressions," NBER Technical Working Papers 0240, National Bureau of Economic Research, Inc.
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  17. Evans, Martin D D & Lewis, Karen K, 1995. "Do Long-Term Swings in the Dollar Affect Estimates of the Risk Premia?," Review of Financial Studies, Society for Financial Studies, vol. 8(3), pages 709-42.
  18. John Y. Campbell & Robert J. Shiller, 1986. "The Dividend-Price Ratio and Expectations of Future Dividends and Discount Factors," NBER Working Papers 2100, National Bureau of Economic Research, Inc.
  19. Alex Maynard & Peter C. B. Phillips, 2001. "Rethinking an old empirical puzzle: econometric evidence on the forward discount anomaly," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 16(6), pages 671-708.
  20. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
  21. Marcel Aloy & Mohamed Boutahar & Karine Gente & Anne P├ęguin-feissolle, 2010. "Fractional integration and cointegration in stock prices and exchange rates," Economics Bulletin, AccessEcon, vol. 30(1), pages 115-129.
  22. Philippe Bacchetta & Eric van Wincoop, 2010. "Infrequent Portfolio Decisions: A Solution to the Forward Discount Puzzle," American Economic Review, American Economic Association, vol. 100(3), pages 870-904, June.
  23. Nicholas Barberis & Richard Thaler, 2002. "A Survey of Behavioral Finance," NBER Working Papers 9222, National Bureau of Economic Research, Inc.
  24. Peter C.B. Phillips, 1985. "Time Series Regression with a Unit Root," Cowles Foundation Discussion Papers 740R, Cowles Foundation for Research in Economics, Yale University, revised Feb 1986.
  25. Molodtsova, Tanya & Papell, David H., 2009. "Out-of-sample exchange rate predictability with Taylor rule fundamentals," Journal of International Economics, Elsevier, vol. 77(2), pages 167-180, April.
  26. Menzie D. Chinn & Guy Meredith, 2004. "Monetary Policy and Long-Horizon Uncovered Interest Parity," IMF Staff Papers, Palgrave Macmillan, vol. 51(3), pages 409-430, November.
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