Foreign Exchange Risk Premium:Does Fiscal Policy Matter? Evidence From Italian Data

Volume/Issue: Volume 1997 Issue 039
Publication date: April 1997
ISBN: 9781451845792
$20.00
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Topics covered in this book

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Investments and Securities-General , Economics- Macroeconomics , Money and Monetary Policy , Public Finance , WP , Risk Premium , Fiscal Policy , Survey Data , Italy , dollar risk premium , mark risk premiums , risk premium equation , mark risk premium change , home currency risk premium , Return on investment , Currencies , Exchange rates , Asset prices

Summary

This paper challenges the conventional view that foreign exchange risk premiums are small, not volatile, and unrelated to macroeconomic variables. For the Italian lira (1987-94), unconditional risk premiums—constructed using survey data to measure exchange rate expectations—are found to be sizable (relative to the dimension of the forward premium), highly volatile (relative to the variability of the forward bias), and predictable. Estimation of structural models of the risk premium suggests that anticipated fiscal contractions in Italy and lower uncertainty about the future path of fiscal policy are associated with a lower risk premium on lira-denominated assets.