Working Paper: NBER ID: w18247
Authors: Kenneth D. West
Abstract: This paper develops asymptotic econometric theory to help understand data generated by a present value model with a discount factor near one. A leading application is to exchange rate models. A key assumption of the asymptotic theory is that the discount factor approaches 1 as the sample size grows. The finite sample approximation implied by the asymptotic theory is quantitatively congruent with modest departures from random walk behavior with imprecise estimation of a well-studied regression relating spot and forward exchange rates.
Keywords: Econometrics; Present Value Models; Discount Factor; Exchange Rates
JEL Codes: C58; F31; F37; G12; G15; G17
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| discount factor (b) (E43) | asset prices (yt) (G19) |
| discount factor (b) approaches unity (G00) | behavior of asset prices (yt) resembles random walk (C22) |
| regressions of exchange rates on forward premiums (F31) | coefficients generally less than one (C29) |
| regression of two-period change in exchange rates on difference between forward rate and lagged exchange rate (F31) | coefficients tend to yield near one (C29) |