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Common and Idiosyncratic 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) elements and a common factor using a principal components approach. We present evidence of a stationary idiosyncratic component and nonstationary common factor. This result leads to the conclusion of a nonstationary risk premium for these countries and a violation of the UIRP in the long-run, which is in contrast to 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, 2008. "Common and Idiosyncratic Factors of the Exchange Risk Premium in Emerging European Markets," SIRE Discussion Papers 2008-49, Scottish Institute for Research in Economics (SIRE).
    • Handle: RePEc:edn:sirdps:62
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    2. Jiang, Chun & Jian, Na & Liu, Tie-Ying & Su, Chi-Wei, 2016. "Purchasing power parity and real exchange rate in Central Eastern European countries," International Review of Economics & Finance, Elsevier, vol. 44(C), pages 349-358.

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    More about this item

    Keywords

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

    JEL classification:

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

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