TY - JOUR

T1 - Testing and interpreting uncovered interest parity in Russia

AU - Vasilyev, Dmitry

AU - Busygin, Vladimir

AU - Busygin, Sergey

N1 - Funding Information: This hypothetical explanation is supported by the following empirical facts. Foreign exchange risk was borne by foreign debt borrowers, i.e., major national banks and companies. From 2004 to 2014, the share of foreign debt denominated in Russian rubles ranged between 15% and 25% (Fig. 4). At the same time, nearly all foreign debt was accumulated by banks and major companies. Publisher Copyright: © 2017 Non-profit partnership "Voprosy Ekonomiki". Hosting by Elsevier B.V. All rights reserved. Copyright: Copyright 2020 Elsevier B.V., All rights reserved.

PY - 2017/5/31

Y1 - 2017/5/31

N2 - The failure of uncovered interest rate parity (UIP) is a well-known phenomenon of the last thirty years. UIP failure is more prominent in advanced economies than in emerging market economies. Typically, UIP estimation for an advanced economy generates a negative coefficient, meaning that a higher interest rate in advanced economy A will result in the appreciation of economy A's exchange rate. For emerging market economies, higher interest rates usually correspond to future depreciation, although this depreciation is not sufficient for UIP to hold. This paper shows that UIP holds in Russia better than in other emerging market economies when the UIP equation accounts for a constant risk premium. Consequently, there is no forward premium puzzle for Russian data for 2001-2014. To determine the results for Russia and to compare them with the results for other countries, we estimate UIP first for Russia and then for advanced and emerging market economies using seemingly unrelated regressions and panel data analysis. By comparing the profitability of static and dynamic carry trade strategies, we also confirm that in emerging market economies, risk premiums are often constant, whereas in advanced economies, risk premiums are almost always volatile. This may explain why UIP holds better in emerging market economies. It also enables us to formulate a hypothesis that macroeconomic policies of emerging market economies (e.g., the accumulation of large foreign exchange reserves) stabilize risk premiums.

AB - The failure of uncovered interest rate parity (UIP) is a well-known phenomenon of the last thirty years. UIP failure is more prominent in advanced economies than in emerging market economies. Typically, UIP estimation for an advanced economy generates a negative coefficient, meaning that a higher interest rate in advanced economy A will result in the appreciation of economy A's exchange rate. For emerging market economies, higher interest rates usually correspond to future depreciation, although this depreciation is not sufficient for UIP to hold. This paper shows that UIP holds in Russia better than in other emerging market economies when the UIP equation accounts for a constant risk premium. Consequently, there is no forward premium puzzle for Russian data for 2001-2014. To determine the results for Russia and to compare them with the results for other countries, we estimate UIP first for Russia and then for advanced and emerging market economies using seemingly unrelated regressions and panel data analysis. By comparing the profitability of static and dynamic carry trade strategies, we also confirm that in emerging market economies, risk premiums are often constant, whereas in advanced economies, risk premiums are almost always volatile. This may explain why UIP holds better in emerging market economies. It also enables us to formulate a hypothesis that macroeconomic policies of emerging market economies (e.g., the accumulation of large foreign exchange reserves) stabilize risk premiums.

KW - Carry trade

KW - Foreign exchange reserves

KW - Forward premium puzzle

KW - Interest parity

KW - Risk premium

UR - http://www.scopus.com/inward/record.url?scp=85046995729&partnerID=8YFLogxK

U2 - 10.1016/j.ruje.2017.06.003

DO - 10.1016/j.ruje.2017.06.003

M3 - Article

AN - SCOPUS:85046995729

VL - 3

SP - 158

EP - 173

JO - Russian Journal of Economics

JF - Russian Journal of Economics

SN - 2618-7213

IS - 2

ER -