Currency Premia and Global Imbalances

Pasquale Della Corte; Steven Riddiough; Lucio Sarno

doi:10.1093/rfs/hhw038

← Search

Currency Premia and Global Imbalances

Pasquale Della Corte^1,2,3; Steven Riddiough^1,2,3; Lucio Sarno^1,2,3

¹ The University of Melbourne · ² City, University of London · ³ Imperial College London

Review of Financial Studies 2016

We show that a global imbalance risk factor that captures the spread in countries’ external imbalances and their propensity to issue external liabilities in foreign currency explains the cross-sectional variation in currency excess returns. The economic intuition is simple: net debtor countries offer a currency risk premium to compensate investors willing to finance negative external imbalances because their currencies depreciate in bad times. This mechanism is consistent with exchange rate theory based on capital flows in imperfect financial markets. We also find that the global imbalance factor is priced in cross-sections of other major asset markets. Received February 11, 2014; accepted January 25, 2016 by Editor Geert Bekaert.

DOI: 10.1093/rfs/hhw038
Volume: 29 (8)
Pages: 2161-2193
Language: en
Export: BibTeX
Sources: openalex crossref