A Theory of Exchange Rates and the Term Structure of Interest Rates
The purpose of this paper is to construct a model of exchange rate determination that is consistent with the stylized facts regarding the uncovered interest parity for short term and long term interest rates. This task is especially challenging because of the forward premium anomaly found for short term interest rates and forward exchange rates. With an assumption that investors have a short investment horizon, the model is consistent with these stylized facts even when the degree of risk aversion is low. The model predicts a complicated relationship between exchange rates and the term structure of the interest rates.
|Date of creation:||Nov 2003|
|Date of revision:|
|Contact details of provider:|| Postal: University of Rochester, Center for Economic Research, Department of Economics, Harkness 231 Rochester, New York 14627 U.S.A.|
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