The Forward Market in Emerging Currencies: Less Biased than in Major Currencies

36 Pages Posted: 21 Sep 2009  

Jeffrey A. Frankel

Harvard University - Harvard Kennedy School (HKS); National Bureau of Economic Research (NBER)

Jumana Poonawala

Harvard University - Harvard Kennedy School (HKS)

Multiple version iconThere are 2 versions of this paper

Date Written: July 24, 2009

Abstract

Many studies have replicated the finding that the forward rate is a biased predictor of the future change in the spot exchange rate. Usually the forward discount actually points in the wrong direction. But, at least until recently, those studies applied only to advanced economies and major currencies. We apply the same tests to a sample of 14 emerging market currencies. We find a smaller bias than for advanced country currencies. The coefficient is on average positive, i.e., the forward discount at least points in the right direction. It is never significantly less than zero. To us this suggests that a time-varying exchange risk premium may not be the explanation for traditional findings of bias. The reasoning is that emerging markets are probably riskier; yet we find that the bias in their forward rates is smaller. Emerging market currencies probably have more easily-identified trends of depreciation than currencies of advanced countries.

Keywords: forward discount, forward premium, bias, puzzle, emerging markets, uncovered interest parity, exchange risk premium, exchange rate

JEL Classification: F31

Suggested Citation

Frankel, Jeffrey A. and Poonawala, Jumana, The Forward Market in Emerging Currencies: Less Biased than in Major Currencies (July 24, 2009). HKS Working Paper No. RWP09-023. Available at SSRN: https://ssrn.com/abstract=1474849 or http://dx.doi.org/10.2139/ssrn.1474849

Jeffrey A. Frankel (Contact Author)

Harvard University - Harvard Kennedy School (HKS) ( email )

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HOME PAGE: http://www.ksg.harvard.edu/fs/jfrankel

National Bureau of Economic Research (NBER)

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Jumana Poonawala

Harvard University - Harvard Kennedy School (HKS) ( email )

79 John F. Kennedy Street
Cambridge, MA 02138
United States

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