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Common factors of the exchange risk premium in emerging European markets

  • Byrne, Joseph P
  • Nagayasu, Jun

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) element and a common factor using a principal components approach. We present evidence of stationary idiosyncratic and common factors. This result leads to the conclusion of a stationary risk premium for these countries, which is consistent with 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.

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File URL: https://mpra.ub.uni-muenchen.de/31393/1/MPRA_paper_31393.pdf
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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 31393.

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Date of creation: May 2011
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Handle: RePEc:pra:mprapa:31393
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