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Uncovering CIP Deviations in Emerging Markets: Distinctions, Determinants and Disconnect
Author:
Mr. Eugenio M Cerutti
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Haonan Zhou https://isni.org/isni/0000000404811396 International Monetary Fund

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Series:
IMF Working Papers
Volume/Issue:
Volume 2023: Issue 028
Language:
English
Publication Date:
10 Feb 2023
DOI:
https://doi.org/10.5089/9798400237003.001
ISBN:
9798400237003
ISSN:
1018-5941
Pages:
49
Keywords:
Covered interest parity; Interest rate differentials; Forward foreign exchange market; Financial market arbitrage; Emerging markets; CIP deviation; FX Market development; short-term Covered Interest Parity; country default risk; segmented FX markets; Interest rate parity; Currencies; Currency markets; Emerging and frontier financial markets; Forward exchange rates; 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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We provide a systematic empirical treatment of short-term Covered Interest Parity (CIP) deviations for a large set of emerging market (EM) currencies. EM CIP deviations have much larger volatilities than most G10 currencies and move in an opposite direction during global risk-off episodes. While off-shore EM CIP deviations are sensitive to changes in FX dealers’ risk-bearing capacities and global risk aversion, on-shore EM CIP deviations are largely unresponsive in segmented FX markets. Moreover, the sensitivity of offshore EM CIP deviations to global risk factors for currencies with segmented FX markets is stronger compared to their counterparts with integrated FX markets. We find weak evidence of country default risk affecting EM CIP deviations after accounting for global factors.
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Cover IMF Working Papers
IMF Working Papers
ISSN:
1018-5941
Publisher:
International Monetary Fund