International Finance Essay Example | Topics and Well Written Essays - 1500 words - 3

International Finance - Essay ExampleWhen used in a data set of 7 major currencies in the post-Bretton Woods age, the JLR test offers strong and credible evidence in support of a unitary cointegrating vector in between forward and like future spot rates. However, the orthogonality condition is met only for 3 major currencies.According to the forward rate unbiasedness hypothesis (FRUH), under conditions of stake neutrality and coherent expectations on the part of market agents, the forward rate is an unbiased predictor of the corresponding future spot rate. Assuming the absence of a risk premium in the foreign exchange market, it must hold true thatJohansen (1992) puts forward a maximum likelihood technique to establish the number of commonplace trends in a system of unit-root variables. Without any generality being lost, a p -dimensional vector autoregressive (VAR) process of k -th order can be compose asTo test the hypothesis in (6), it suffices to test that the smallest of th e characteristic roots of is zero, as a rejection necessarily implies that all characteristic roots of are nonzero and because possesses full rank. Such a test can be constructed on the basis of the following test statistic, referred to as the Johansen likelihood ratio (JLR) test statisticThe musical theme analyzed U.S. dollar spot and 90-day forward rates for 8 major currencies Canadian dollar (CD), Deutsche mark (DM), British pound (BP), French franc (FF), Swiss franc (SF), Netherlands gulden (NG), and the Italian lira (IL). The sample period is from 19743 to 19964 at a quarterly relative frequency. Since the maturity date of the forward contract and the sampling frequency are similar, problems emanating from the use of overlapping data are bypassed. The 90-day forward rates are matched with the corresponding future spot rates and