Abstract
We investigate the relationship between cointegration models of the current spot exchange rate, s t , and the current forward rate, f t , and cointegration models of the future spot rate, s t+1 , and f t and the implications of this relationship for tests of the forward rate unbiasedness hypothesis (FRUH). We show that simple models of cointegration between s t and f t imply complicated models of cointegration between s t+1 and f t . Consequently, standard methods are often inappropriate for modeling the cointegrated behavior of ( s t+1 , f t )′ and we show that the use of such methods can lead to erroneous inferences regarding the FRUH.
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