estimation and simulation of risk premia in equity and foreign exchange markets abstract there is substantial evidence to reject constant risk premia financial models while time varying risk premia are often mentioned as an alternative the literature has yet to produce an example that accounts for the important time series properties of asset returns we inquire whether mean variance optimization models can do so we model asset risk with an absolute error version of the arch in mean hypothesis and model hedging motives that derive from variation in future real income and inflation to account for agent heterogeneity we consider a three country and two asset world our model predicts values for five excess returns relative to the us bill rate we use a systems approach to estimate the model parameters and then simulate the estimated model to determine if it can account for the important time series properties of risk premia

tests of the foreign exchange risk premium using the expected second moments implied by option pricing abstract this paper utilizes the second moment expectations implied by currency option pricing to demonstrate that these expectations are systematically related to expected return differentials across assets denominated in different currencies because the measured deviations from uncovered interest rate parity are tied to variables which theory links to the risk premium the results provide substantial evidence that a risk premium does indeed exist as opposed to the alternative of a violation of rational expectations however like previous attempts the data do not support an explicit mean variance formulation of the risk premium

bargaining and value we present and analyze a model of noncooperative bargaining among n participants applied to situations describable as games in coalitional form this leads to a unified solution theory for such games that has as special cases the shapley value in the transferable utility tu case the nash bargaining solution in the pure bargaining case and the recently introduced maschler owen consistent value in the general nontransferable utility ntu case moreover we show that any variation in a certain class of our bargaining procedure which generates the shapley value in the tu setup must yield the consistent value in the general ntu setup

in search of the exchange risk premium a six currency test assuming mean variance optimization abstract a number of authors examining deviations of actual rates of currency depreciation from forward discounts have claimed to find evidence of risk premiums if these deviations are indeed partly due to risk premiums rather than being entirely due to expectational errors then they should be systematically related to those variables on which risk premiums are thought to depend finance theory tells us that if investors optimize with respect to mean and variance the risk premium depends in a specific way on 1 the supplies of assets denominated in the various currencies 2 the variance covariance matrix of the rates of return and 3 the coefficient of risk aversion the null hypothesis of this paper is that the coefficient of risk aversion is zero countries assets are perfect substitutes and risk premiums are nonexistent the alternative hypothesis is that rates of return are systematically related to asset supplies by a macroeconomic portfolio balance function the maximum likelihood technique used dominates previous attempts to find such a relationship in that the parameters of the portfolio balance function are constrained to depend on the variance covariance matrix as the finance theory says they should on the other hand the technique also dominates previous applications of the finance theory in that the expected returns are allowed to vary over time as the macroeconomic portfolio balance theory says they should the paper s finding is a statistical inability to reject the null hypothesis for a portfolio of six currencies although this could be due to low power in the test

inflation risk and asset market disturbances the mean variance model revisited abstract this paper empirically re investigates the international capm model in constrast to previous studies by frankel 1982 and frankel and engel 1984 the estimation model does not require that there be no asset market disturbances also rather than requiring purchasing power parity or that the only source of inflation uncertainty arise from a weighted average of exchange rate changes as in the previous studies inflation risk is simply measured as the uncertain component in the consumer price index of each country to allow for these additional sources of uncertainty an alternative estimation method is derived to identify the covariance constraints

spurious long memory uncommon breaks and the implied realized volatility puzzle abstract one of the puzzles in international finance is the frequent finding that implied volatility is a biased predictor of realized volatility however given asset price volatility is often characterized as possessing long memory the recent literature has shown that allowing for long range dependence removes this bias of course the appearance of long memory can be generated by the presence of structural breaks this paper discusses the effect of structural breaks on the implied realized volatility relation simulations show that if significant structural breaks are omitted testing can spuriously show the typical patterns of fractional cointegration found in the literature next empirical results show that foreign exchange implied and realized volatility contains structural breaks the breaks in the implied series never closely anticipate or co occur with those of the realized series suggesting that the market has no ability to forecast structural change when breaks are accounted for in the bi variate framework the point estimate of the slope parameter falls and the null of unbiasedness can be rejected allowing for structural breaks suggests that the implied realized volatility puzzle might not be solved after all

energy development in china the need for a coherent policy abstract china the world s third largest consumer of primary energy remains in relative terms a poor developing country ambitious modernization plans exemplified by the goal of quadrupling per capita gnp by the year 2000 will require considerable attention to long range energy planning yet the past developments including the most recent guidelines have been marked by abrupt changes and outright reversals leaving china without any coherent energy policy the most durable strategies which emerged during the late 1970s are the stress on coal as the principal fuel building of mine mouth power plants accelerated construction of large hydro stations massive diffusion of small biogas digesters and widespread energy conservation measures

interim third party selection in bargaining abstract third party intervention can reduce the risk of conflict in situations where the bargaining failure is due to asymmetric information in this paper i consider the selection of a third party in a two person bargaining problem where each disputant has private information about its relative strength or weakness for a class of problems i find that the disputants choose the third party that is best for the strong type but worst for the weak type due to the incentive of each disputant to avoid seeming weak to their adversary the selected third party s intervention entails a higher ex ante chance of conflict than intervention by any other alternative this paper shows how the process of interim third party selection can have important consequences for the outcome of a third party intervention in bargaining

values for cooperative games with incomplete information an eloquent example myerson s 1984 extension of the lambda transfer value to cooperative games with incomplete information focus among other things on the strength of the incentive constraints at the solution for determining the power of coalitions we construct an intuitive three player game where the player whose only contribution is to partly release the two other players from the incentive constraints they face when they cooperate receives a zero payoff according to myerson s solution on the contrary the random order arrival procedure attributes a strictly positive payoff to him our example is thus an analog of the banker game of owen 1972 that was designed for evaluating the lambda transfer value under complete information asymmetric information now takes up the role that was formerly attributed to the lack of transferability of utilities

china s ongoing energy efficiency drive origins progress and prospects abstract in 2004 china s government launched a vigorous programme to reverse the trend of rising national energy intensity and to reduce intensity by 20 over the period 2006 2010 the aim of this paper is to examine this programme in the context of nearly 30 years of measures to enhance energy efficiency in china and thus to evaluate the likelihood that today s policies will yield improvements over a longer period the country achieved a sustained decline of energy intensity in the period 1980 2001 but this trend was reversed in 2002 this reversal arose from a shift in the structure of the economy to more energy intensive industries and from a decline in the rate of technical innovation the measures taken since 2003 have been directed principally at energy intensive industries but have also addressed other sectors of the economy though the energy intensity target for the year 2010 may be achieved greater efforts will be needed to address a number of constraints which include the reluctance to use economic and financial instruments the dependency of energy policy on industrial and social policies the nature of political decision making and of public administration a shortage of skills and social attitudes to energy

on the biasedness of forward foreign exchange rates irrationality or risk premia in this article the authors reconsider the k a froot and j a frankel 1989 results on the sources of forward discount bias they question the economic validity of some estimation restrictions that they impose and thus are led to question some of their results the authors employ a new exchange rate survey database that includes european monetary system currencies and use univariate and pooling estimation techniques that impose fewer restrictions than those of froot and frankel to test their hypotheses they find that the bias in the forward discount is attributable to both the failure of rational expectations and the existence of time varying risk premia copyright 1994 by university of chicago press

charts noise and fundamentals in the london foreign exchange market this paper presents some empirical evidence on the prevalence perceived importance and nature of chartist or technical analysis in the london foreign exchange market if noise traders see e g de long et al i987 are defined as those speculators who do not base their trading strategies on a consideration of market fundamentals then it clearly encompasses those traders who employ chart analysis i e those who base their strategies on the analysis and extrapolation of past price movements alone

what induced china s energy intensity to fluctuate 1997 2006 abstract china is the second largest energy consumer in the world during 1997 2002 china s energy intensity declined by 33 however it rose by 10 7 over 2003 2005 and declined by 1 2 in 2006 what induced china s energy intensity to fluctuate so drastically industry accounts for approximately 70 of the total energy consumption in china in this paper we decompose china s industrial energy intensity changes between 1997 and 2002 into sectoral structural effects and efficiency effects measured by sectoral energy intensities at two digit level and including the shifts of product mix in the sub sector or firm level using tornqvist and sato vartia index methods the results show that in this period efficiency effects possibly contributed to a majority of the decline while the contribution from structural effects was less during 2003 2005 the excessive expansion of high energy consuming sub sectors and the high investment ratio were foremost sources of the increasing energy intensity attributed to the government efforts the energy intensity has started to decline slightly since july 2006 in future to save more energy in addition to technical progress china should attach more importance to optimizing its sectoral structure and lowering its investment ratio

predicting volatility in the foreign exchange market measures of volatility implied in option prices are widely believed to be the best available volatility forecasts in this article we examine the information content and predictive power of implied standard deviations isds derived from chicago mercantile exchange options on foreign currency futures the article finds that statistical time series models even when given the advantage of ex post parameter estimates are outperformed by isds isds however also appear to be biased volatility forecasts using simulations to investigate the robustness of these results the article finds that measurement errors and statistical problems can substantially distort inferences even accounting for these however isds appear to be too variable relative to future volatility it is widely believed that the volatility implied in option prices is the market s best estimate of future volatility after all if it were not one could devise a trading strategy that could generate profits by identifying mispriced options the purpose of this article is to investigate the information content and predictive power of volatility implied in options on foreign currencies the paper focuses on options on currency futures traded on the chicago mercantile exchange cme because of the depth and liquidity of cme futures and options traded side by side in the same market implied standard deviations isds allow for clean tests of the predictive power of implied volatilities early studies of the information content of isds have generally found that these contain substantial information for future volatility latane and rendleman 1976 chiras and manaster 1978 and beckers 1981 for example regress future volatility on the weighted implied volatility across a broad sample of chicago board options exchange cboe stocks and find that options contain volatility forecasts that are more accurate than historical measures 1 these studies performed shortly after the 1973 beginning of the cboe option market could only use a relatively short time span and therefore focused on cross sections rather than time series predictions

private behaviour and government policy in interdependent economies this is a comprehensive survey of the macroeconomic co ordination of international economies subjects covered include monetary policies and exchange rates abolishing exchange controls policy co ordination and the international monetary system assessing monetary shocks and exchange rate variability ems stability economic interactions and fiscal policies the contributors are anthony s courakis ronald macdonald mark p taylor peter n smith michael r wickens jeffrey a frankel kenneth a froot michael j artis giorgio radaelli shaziye gazioglu michael j moore neil rankin s mansoob murshed somnath sen paul r masson malcolm knight patrick minford emanuel pikoulakis david currie ullrich hoffmeyer and frederick van der ploeg this book is intended for international monetary economists and macroeconomists graduate and third year undergraduate students

testing for long horizon uip using ppp based exchange rate expectations abstract this paper revisits the uncovered interest parity relation it supplements existing work in two ways it focuses on long instead of short term interest rates and related to that employs exchange rate expectations derived from purchasing power parity ppp instead of actual outcomes among the major floating currencies over the period 1975 1997 the paper cannot support the notion of further increases in uip validation beyond that associated with the wave of financial market liberalization and deregulation in the early 1980s

on biases in the measurement of foreign exchange risk premiums abstract the hypothesis that the forward rate is an unbiased predictor of the future spot rate has been consistently rejected in recent empirical studies this paper examines several sources of measurement error and misspecification that might induce biases in such studies although previous inferences are shown to be robust to a failure to construct true returns and to omitted variable bias arising from conditional heteroskedasticity in spot rates we show that the parameters were not stable over the 1975 89 sample period estimation that allows for endogenous regime shifts in the parameters demonstrates that deviations from unbiasedness were more severe in the 1980s jel f31

self fulfilling risk predictions an application to speculative attacks abstract we show that changing market beliefs about currency risk can generate a self fulfilling speculative attack on a fixed exchange rate the attack does not require a later change in policies to make it profitable we illustrate this point by introducing an endogenous risk premium into a first generation model of a speculative attack the model is further modified to take account of sterilization debt financed fiscal deficits and anticipatory price setting behavior we use the model to interpret the 1994 mexican peso crisis

testing the uncovered interest parity using traded volatility a time varying risk premium and heterogeneous expectations abstract this paper carries out an empirical investigation of an extended version of flood and marion s 2000 self fulfilling risk predictions an application to speculative attacks journal of international economics 50 245 268 uip model which incorporates a nonlinear time varying risk premium that depends on both the expected variance of the future exchange rate and the relative worldwide private holdings of domestic and foreign government bonds a novel contribution of our paper is the use of traded currency volatility which is directly observable in the market place to measure expectations about the future volatility of the exchange rate another contribution is the explicit modelling of heterogeneous exchange rate expectations formed by forward looking fundamentalists and backward looking chartists our overall empirical evidence provides strong support for the extended nonlinear uip model we also investigate for the first time the role of traded volatility in the dynamic behaviour of exchange rates and find that high currency volatility is likely to produce oscillatory and unstable exchange rate paths

the value allocation of an economy with differential information we analyze the shapley value allocation of an economy with differential information since the intent of the shapley value is to measure the sum of the expected marginal contributions made by an agent to any coalition that he she belongs to the value allocation of an economy with differential information provides an interesting way to measure the information advantage of an agent this feature of the shapley value allocation is not necessarily shared by the rational expectation equilibrium thus we analyze the informational structure of an economy with differential information from a different and new viewpoint

econometric evaluation of the exchange rate in models of the uk economy in june 1972 sterling s fixed parity against the dollar was abandoned and macroeconomic modellers could no longer treat the exchange rate as an exogenous variable a considerable research effort ensued as modellers sought to integrate exchange rate systems into their econometric models none of the resulting systems performed well however and the exchange rate equations often had to be overridden or subjected to heavy residual adjustment in forecasting and policy analysis exercises in the first instance these difficulties came as no surprise given the short series of data available for the floating regime and the uninformative nature of the fixed regime the difficulties have persisted however in an analysis of the historical tracking performance of a recent vintage of the main uk macroeconometric models fisher and wallis i990 find that no model has a particularly good static simulation record with respect to the exchange rate nor are these difficulties purely local ones in his international survey isard i 988 concludes that empirical modeling of exchange rates over the past decade has been largely a failure this paper evaluates the exchange rate mechanisms embodied in current large scale models of the uk economy and develops a new specification that is econometrically preferable the models considered are those of the london business school lbs national institute of economic and social research niesr liverpool university research group in macroeconomics lpl bank of england be and her majesty s treasury hmt as deposited with

the efficient estimation of econometric models with rational expectations the efficient estimation of econometric models with rational expectations by the substitution method usually entails the use of a non linear simultaneous equations estimator and hence is not very attractive computationally it is shown that for a wide class of problems efficient estimates can also be obtained with standard estimation methods if instead an errors in variables approach is used for many other problems although not providing fully efficient estimates because rationality is not imposed the errors in variables method will still have a strong appeal because otherwise it uses all of the structural information in the model unlike the substitution method when an incomplete information set is used it guarantees consistent estimates and it is easy to compute

tests of three parity conditions distinguishing risk premia and systematic forecast errors abstract this study provides evidence that uncovered interest differentials between currencies cannot be attributed to either risk premia or systematic forecast errors alone the evidence is based on developing joint tests of three parity conditions uncovered interest parity purchasing power parity and real interest parity the study tests parameter restrictions based on knowing that risk premiums only affect nominal and real interest differentials but not inflation differentials while systematic errors in forecasting exchange rates only affect nominal interest differentials and inflation differentials but not real interest differentials the study finds a variety of cases where deviations from some or all of the parity conditions can be systematically related to variables currently known to investors and borrowers the most intriguing evidence is that for some currencies these deviations from parity are perfectly correlated as if they were driven by a common factor

the impacts of energy prices on energy intensity evidence from china in this paper we present a review of the deregulation of energy prices in china between 1985 and 2004 and assess the impacts of changes in energy prices on aggregate energy intensity and coal oil electricity intensity we used time series data to provide estimates of energy price elasticities empirical results showed that 1 the own price elasticities of coal oil and aggregate energy were negative in periods both before and after 1995 implying that higher relative prices of different energy types lead to the decrease in coal oil and aggregate energy intensities however the positive own price elasticity of electricity after 1995 probably indicates that the price effect was weaker than other factors such as income effect and population effect 2 the impacts of energy prices were asymmetric over time 3 sectoral adjustment also drove the decrease in aggregate energy intensity although raising energy prices to boost efficiency of energy use seems to be an effective policy tool other policy implications concerned with energy prices such as energy supply security and fuel poverty must also be considered