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Commodity Trade and the Carry Trade: a Tale of Two Countries

  • Nikolai Roussanov

    (Wharton School, U. of Penn)

  • Robert Ready

    (University of Rochester)

Persistent differences in interest rates across countries account for much of the profitability of currency carry trade strategies. We relate these differences to the differences of economic fundamentals across countries. We show that countries that primarily export basic commodities exhibit systematically high (real) interest rates while countries that specialize in exporting finished consumption goods typically have lower rates. The resulting interest rate differentials do not fully translate into the depreciation of the commodity currencies, on average. Instead, they translate into expected returns that capture the bulk of the unconditional risk premia that can be obtained in the currency markets. We provide a general equilibrium model of commodity trade and currency pricing that can rationalize these facts by relying on adjustment costs in the shipping sector.

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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 817.

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Date of creation: 2012
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Handle: RePEc:red:sed012:817
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