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)| false Lizondo, Jose Saúl (1983a), “Interest Differential and Covered Arbitrage,” in Financial Policies and the World Capital Market: The Problem of Latin American Countries, ed. by ( Pedro Aspe Armella, Rudiger Dornbusch, and Maurice Obstfeld Chicago: University of Chicago Press).
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Hoe E, Khor is a Senior Economist in the Asian Department, He holds a Ph.D. from Princeton University.
Liliana Rojas-Suarz, an Economist in the Financial Studies Division of the Research Department, holds a Ph.D. from the University of Western Ontario
The authors wish to thank Charles Adams. Sterie T. Beza. Guillermo Calvo. Mohamed El-Erian, Robert Flood. Eliot Kalter, Claudio Loser. J. Saul Lizondo. and Sweder van Wijnbergen for their comments and suggestions. and Agustin Carsten and other members of the Banco de Mexico for the data used in this study.
For some of the tests conducted in this paper, we were able to extend the sample period somewhat.
Since 1982, Mexico’;s access to international capital markets has been severely restricted, and virtually all new lendings to the country have taken the form of concerted facilities in the context of debt restructuring arrangements. The few voluntary bond issues that have taken place in recent years have been subject to high—albeit declining—coupon rates, providing further evidence of the lower credit rating of Mexico relative to industrial countries.
Pagares de la Tesorería de lit Federación.
The interest rate on PAGAFES is indexed to the exchange rate in the controlled market, so that there is still a risk of an exchange loss in the event of a divergence in the spread between the exchange rates in the controlled and free markets. Since the investor would ordinarily have to remit his or her gains through the free market, an unanticipated increase in the spread between the controlled and free rates would lead to an exchange loss. During the period under study, the spreads between the two rates were less than 2 percent, except for a short episode in November–December 1987 when the spread widened to about 25 percent. However, the risk of a widening spread between the exchange rates in the controlled and free markets should affect equally the interest rates on both CETES and PAGAFES.
Certificados de la Tesorería.
Twenty-eight-day PAGAFES were issued beginning in January 1988. Hence, data for PAGAFES in 1987 were proxied by using interest rates on PAGAFES of 91-and 182-day maturity. Data for interest rates and exchange rates are closing bid rates corresponding to the last Wednesday of every month.
Testsfor developed countries have usually validated the CIP but do not support UIP. See, for example, Cumby and Obstfeld (1980).
Some of the empirical tests have analyzed the extent to which deviations from covered arhitrage can be explained by transaction costs. Many of these tests have followed the methodology suggested by Frenkel and Levich (1975), by which four transaction costs are identified: the cost of transactions in domestic and foreign securities and in spot and forward exchange rates. This methodology is not applicable here, however, because transactions in both CETES and PAGAFES are done in Mexican pesos: hence, the transaction costs of moving from one currency to another are not present. However, some transaction costs involved in the sale and purchase of the two assets still remain, which can account for the small deviations from covered arbitrage.
At the end of May 1990, the authorities reduced the depreciation of the exchange rate to 0.80 peso per U.S. dollar a day, and in mid-November, the depreciation was further reduced to 0.40 peso per U.S. dollar a day.
Only five of the forecast errors were found to be negative. Again, in line with predictions from the model of the peso problem, a large and negative forecast error was observed in November 1987 when the peso was actually depreciated by 18 percent.
In a previous study of UIP in Mexico, Lizondo (1983a) found that during the period from May 1977 to December 1980, the forecast errors also had a positive mean but showed a small positive autocorrelation at the first lag. A possible explanation for the discrepancy between his results and the ones presented in this study is that, over the period covered in Lizondo’;s study, the interest rate was regulated by the Mexican authorities. This is in contrast with the most recent period covered here, when, with the exception of brief subperiods, the interest rate was allowed to float.
As noted in the previous section, the interest rate on PAGAFES should also incorporate a premium reflecting the risk of a divergence between the free and the controlled exchange rates.
Some have argued that the effective maturity of Mexico’;s external debt is infinite since it is subject to repeated rescheduling. However, this argument is no longer valid, since most loans have been converted into 30-year bonds whose principals are collateralized.
The series used correspond to the average price on restructured obligations for which data are available since 1986. Data on trade credits are available only since July 1988.
It should be noted that under the null hypothesis, all the test statistics have nonstandard distributions, and the critical values are taken from tabulations compiled by Dickey, Fuller, and other investigators.