A Liquidity‐Based Resolution of the Uncovered Interest Parity Puzzle

Seungduck Lee · Kuk Mo Jung

11 citations0/0 files storedJournal of money credit and banking

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Monetary Policy and Economic Impact Global Financial Crisis and Policies Economic theories and models

Abstract

Abstract A new monetary theory is set out to resolve the “uncovered interest parity (UIP)” puzzle. It explores the possibility that liquidity properties of money and nominal bonds can account for the puzzle. A key concept in our model is that nominal bonds carry liquidity premia . We show that the UIP can fail to hold under the economic environment where collateral pledgeability and/or liquidity of nominal bonds and/or collateralized credit‐based transactions are relatively bigger. Our liquidity‐based theory can help understanding many empirical observations that risk‐based explanations find difficult to reconcile with.

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References

1978Asset Prices in an Exchange Economy 1984Forward and spot exchange rates 2012The Aggregate Demand for Treasury Debt 2005A Unified Framework for Monetary Theory and Policy Analysis 1995The handbook of international economics 1982Interest rates and currency prices in a two-country world 2011Common Risk Factors in Currency Markets 2008An Equilibrium Model of “Global Imbalances” and Low Interest Rates

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