Abstract
This paper addresses issues in extending the affine class of term structure models to describe the joint dynamics of exchange rates and interest rates. A standard incomplete markets approach is shown to impose many constraints on exchange rate dynamics in affine settings. A canonical multicountry affine model, and the method to estimate it via Kalman filters, are formulated. Familiar difficulties in reconciling the forward premium anomaly with affine models are overcome, by introducing additional state variables which affect only exchange-rate dynamics. This yields a more adequate model of the observed volatilities of exchange rates and their correlation with interest rates.
Talk to us
Join us for a 30 min session where you can share your feedback and ask us any queries you have
Schedule a callDisclaimer: All third-party content on this website/platform is and will remain the property of their respective owners and is provided on "as is" basis without any warranties, express or implied. Use of third-party content does not indicate any affiliation, sponsorship with or endorsement by them. Any references to third-party content is to identify the corresponding services and shall be considered fair use under The CopyrightLaw.
