Robert M. La Follette School of Public Affairs

(Almost) A Quarter Century of Currency Expectations Data: Interest Rate Parity and the Risk Premium

Using survey-based data on exchange rate expectations over a long sample extending from August 1986 to October 2009 period, the author re-examines whether the presence of an exchange risk premium or biased expectations explains why the forward premium fails to predict exchange rates changes. On a time series basis, (i) forward rate bias persists into the most recent period, (ii) the forward rate better predicts expected depreciation, suggesting uncovered interest parity holds, (iii) these patterns persist in panel regressions, and (iv) survey based expectations are biased predictors of exchange rate changes. The implication is that the standard measure of the exchange risk premium, identified using the rational expectations hypothesis, provides misleading inferences.

Additional Info

  • Volume or issue no.: La Follette School Working Paper No. 2015-006
  • Author(s): Menzie D. Chinn