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Determinants of the Foreign Exchange Risk Premium in Gulf Cooperation Council Countries
Author:
Mr. Tigran Poghosyan
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Series:
IMF Working Papers
Volume/Issue:
Volume 2010: Issue 255
Language:
English
Publication Date:
01 Nov 2010
DOI:
https://doi.org/10.5089/9781455209552.001
ISBN:
9781455209552
ISSN:
1018-5941
Pages:
24
Keywords:
WP; foreign exchange; exchange rate; foreign exchange risk; time-varying risk premium; multivariate GARCH-in- Mean; GCC; foreign exchange risk premium; oil price; covariance term; obtained risk premium expression; variance-covariance matrix; Return on investment; Exchange rate risk; Oil prices; Consumption; Currencies; Global
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IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.
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This paper analyzes macroeconomic determinants of the foreign exchange risk premium in two Gulf Cooperation Council (GCC) countries that peg their currencies to the U.S. dollar: Saudi Arabia and the United Arab Emirates. The analysis is based on the stochastic discount factor methodology, which imposes a no arbitrage condition on the relationship between the foreign exchange risk premium and its macroeconomic determinants. Estimation results suggest that U.S. inflation and consumption growth are important factors driving the risk premium, which is in line with the standard C-CAPM model. In addition, growth in international oil prices influences the risk premium, reflecting the important role played by the hydrocarbon sector in GCC economies. The methodology employed in this paper can be used for forecasting the risk premium on a monthly basis, which has important practical implications for policymakers interested in the timely monitoring of risks in the GCC.
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Cover IMF Working Papers
IMF Working Papers
ISSN:
1018-5941
Publisher:
International Monetary Fund