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Five Facts about the UIP Premium

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  • Ṣebnem Kalemli-Özcan
  • Liliana Varela

Abstract

We introduce a new measure of currency risk for emerging markets, the UIP premium, and highlight five key insights into its cross-sectional and time-series properties. We derive the UIP premium from survey data on exchange rate expectations and show that it captures a substantial local risk factor, as evidenced by: (1) The UIP premium for emerging markets is consistently positive, higher, and more volatile than the UIP premium for advanced economies; (2) A significant portion of cross-sectional and time-series variation in the UIP premium is driven by local risk factors; (3) The interest rate differential component of the UIP premium is more volatile and strongly correlated with local risk factors; (4) Local and global risk factors influence exchange rate expectations, which closely align with actual exchange rate movements; (5) The local risk factor is associated with country-specific policy shocks, where such policy uncertainty can predict persistent expectations of depreciations.

Suggested Citation

  • Ṣebnem Kalemli-Özcan & Liliana Varela, 2021. "Five Facts about the UIP Premium," NBER Working Papers 28923, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:28923
    Note: IFM
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    Cited by:

    1. Eugenio Cerutti & Haonan Zhou, 2024. "Uncovering CIP Deviations in Emerging Markets: Distinctions, Determinants, and Disconnect," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 72(1), pages 196-252, March.
    2. Gutierrez, Bryan & Ivashina, Victoria & Salomao, Juliana, 2023. "Why is dollar debt Cheaper? Evidence from Peru," Journal of Financial Economics, Elsevier, vol. 148(3), pages 245-272.
    3. Javier Bianchi & Guido Lorenzoni, 2021. "The Prudential Use of Capital Controls and Foreign Currency Reserves," NBER Working Papers 29476, National Bureau of Economic Research, Inc.
    4. Javier Bianchi & Saki Bigio & Charles Engel, 2021. "Scrambling for Dollars: International Liquidity, Banks and Exchange Rates," Working Papers 786, Federal Reserve Bank of Minneapolis.
    5. Michael B. Devereux & Charles Engel & Steve Pak Yeung Wu, 2023. "Collateral Advantage: Exchange Rates, Capital Flows and Global Cycles," NBER Working Papers 31164, National Bureau of Economic Research, Inc.
    6. Paolo Manasse & Graziano Moramarco & Giulio Trigilia, 2024. "Exchange rates and political uncertainty: the Brexit case," Economica, London School of Economics and Political Science, vol. 91(362), pages 621-652, April.
    7. repec:frd:wpaper:dp2023-03er:dp2023-03 is not listed on IDEAS
    8. Ekaterina Pirozhkova & Jeffrey Rakgalakane & Luchelle Soobyah Rudi Steinbach, 2023. "EnhancingtheQuarterlyProjectionModel," Working Papers 11044, South African Reserve Bank.
    9. Matthieu Bussière & Menzie Chinn & Laurent Ferrara & Jonas Heipertz, 2022. "The New Fama Puzzle," IMF Economic Review, Palgrave Macmillan;International Monetary Fund, vol. 70(3), pages 451-486, September.
    10. Gole, Purva & Perego, Erica & Turcu, Camelia, 2024. "UIP deviations in times of uncertainty: Not all countries behave alike," Economics Letters, Elsevier, vol. 242(C).
    11. Jeanne, Olivier, 2022. "Rounding the corners of the trilemma: A simple framework," Journal of International Money and Finance, Elsevier, vol. 122(C).
    12. Bernoth, Kerstin & Herwartz, Helmut & Trienens, Lasse, 2024. "Interest Rates, Convenience Yields and Inflation Expectations: Drivers of US Dollar Exchange Rates," VfS Annual Conference 2024 (Berlin): Upcoming Labor Market Challenges 302351, Verein für Socialpolitik / German Economic Association, revised 2024.
    13. Boermans, Martijn A. & Burger, John D., 2023. "Fickle emerging market flows, stable euros, and the dollar risk factor," Journal of International Economics, Elsevier, vol. 142(C).
    14. Miguel Acosta-Henao & Andrés Fernández & Patricia Gomez-Gonzalez & Sebnem Kalemli-Ozcan, 2022. "The COVID-19 Shock and Firm Financing: Government or Market? Or Both?," Working Papers Central Bank of Chile 967, Central Bank of Chile.
    15. Ekaterina Pirozhkova & Jeffrey Rakgalakane & Luchelle Soobyah & Rudi Steinbach, 2023. "Enhancing the Quarterly Projection Model," Working Papers 11048, South African Reserve Bank.

    More about this item

    JEL classification:

    • E0 - Macroeconomics and Monetary Economics - - General
    • F0 - International Economics - - General

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