The Economics of Uncovered Interest Parity Condition for Emerging Markets: A Survey

into account.

¹⁶ Calvo and Reinhart (2002) document that monetary authorities’ fear of large currency swings, fear of
floating, is pervasive especially among emerging markets.

¹⁷The emerging market countries included are Argentina, Brazil, Chile, Mexico, and Turkey. The time
period is May 1995-March 2004.

¹⁸ Dooley and Isard (1980) define political risk as risk due to potential changes in capital account restrictions
and hence possibility of future deviations from perfect capital mobility. Aliber (1973) is the first to define
this concept.

¹⁹ Chinn and Frankel (2002) use survey-based exchange rate data for ten emerging markets for the period
1988-1994 and document that actual depreciation and survey-based expected depreciation move together
for three high-inflation emerging markets. This indicates that for such countries rational expectations
assumption can be retained.

²⁰As aforementioned, when investors take into account real rather than nominal returns, the definition of
risk premium as in equation (11) should be augmented by the JIT.

²¹ Suppose domestic refers to an emerging market, and foreign denotes the U.S. Accordingly, the choices
are (i) an emerging market government bond denominated in domestic currency, e.g. Cetes for Mexico, (ii)
an emerging market government bond denominated in foreign currency, e.g. Tesobonos for Mexico, (iii) an
emerging market eurobond, and (iv) the U.S. T-bond, all having the same maturity.

²²Country premium can also be approximated by analyzing time-series properties of deviations from the
CIP condition since the CIP condition rules out currency risks. See, for example, Kumhof (2001).

²³To circumvent the potential maturity mismatch problem, Rojas-Suarez and Sotelo (2007) test whether
the underlying asset yields and the expected depreciation/forward premium move together in the long run.

²⁴These countries are the Czech Republic, Estonia, Hungary, Latvia, Lithuania, Poland, the Slovak Re-
public and Slovenia. The start of the sample period varies between January 1994 and March 2002, and the
end of the period varies between June 2002 and October 2004. The reference interest rate is Euribor with
3-month maturity.

²⁵Analyzing time-series properties of deviations from the real interest parity condition, Singh and Banerjee
(2006) and Ferreira and Leon-Ledesma (2007) report stationary albeit around a positive mean real interest
differentials for the emerging markets in their sample.

²⁶See Fama and French (2004) for a comprehensive survey on the CAPM.

²⁷Bekaert and Harvey (2003) provide discussions on emerging equity markets as well as a survey of this
literature. For most recent empirical works, see Girard and Omran (2007), Iqbal and Brooks (2007), Misirli
and Alper (2007) and Tai (2007).

²⁸In addition, Francis et al. report that the systematic component of excess returns, i.e. risk premium,

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