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The forward premium anomaly : can sticky-price models generate volatile foreign exchange risk premia?

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  • Moon, Seongman

Abstract

Fama’s (1984) volatility relations show that the risk premium in foreign exchange markets is more volatile than, and is negatively correlated with the expected rate of depreciation. This paper studies these relations from the perspective of goods markets frictions. Using a sticky-price general equilibrium model, we show that near-random walk behaviors of both exchange rates and consumption, in response to monetary shocks, can be derived endogenously. Based on this approach, the paper provides quantitative results that might explain the forward premium anomaly, which is one of the most important puzzles in international finance.

Suggested Citation

  • Moon, Seongman, 2007. "The forward premium anomaly : can sticky-price models generate volatile foreign exchange risk premia?," UC3M Working papers. Economics we074924, Universidad Carlos III de Madrid. Departamento de Economía.
    • Handle: RePEc:cte:werepe:we074924
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    Keywords

    Foreign exchange risk premium;

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