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184CHAPTER 6. FOREIGN EXCHANGE MARKET EFFICIENCYProperties of Survey Expectations(117)⇒Instead of modeling the subjective expectations of market participantsas mathematical conditional expectations, why not just ask people whatthey think? One line of research has used surveys of exchange rate forecastsby market participants to investigate the forward premium bias(deviation from UIP). Froot and Frankel [65], study surveys conductedby the Economist’s Financial Report from 6/81—12/85, Money MarketServices from 1/83—10/84, and American Express Banking Corporationfrom 1/76—7/85, Frankel and Chinn [58] employ a survey compiledmonthly by Currency Forecasters’ Digest from 2/88 through 2/91, andCavaglia et. al. [23] analyze forecasts on 10 USD bilateral rates and 8deutschemark bilateral rates surveyed by Business <strong>International</strong> Corporationfrom 1/86 to 12/90. The survey respondents were asked toprovide forecasts at horizons of 3, 6, and 12 months into the future.The salient properties of the survey expectations are captured intwo regressions. Let ŝ e t+1 be the median of the survey forecast of thelog spot exchange rate s t+1 reported at date t. TheÞrst equation is theregression of the survey forecast error on the forward premium∆ŝ e t+1 − ∆s t+1 = α 1 + β 1 (f t − s t )+² 1t+1 . (6.29)If survey respondents have rational expectations, the survey forecast errorrealized at date t+1 will be uncorrelated with any publicly availableat time t and the slope coefficient β 1 in (6.29) will be zero.The second regression is the counterpart to Fama’s decompositionand measures the weight that market participants attach to the forwardpremium in their forecasts of the future depreciation∆ŝ e t+1 = α 2 + β 2 (f t − s t )+² 2,t+1 . (6.30)Survey respondents perceive there to be a risk premium to the extentthat β 2 deviates from one. That is because if a risk premium exists,it will be impounded in the regression error and through the omittedvariables bias will cause β 2 to deviate from 1.Table 6.4 reports selected estimation results drawn from the literature.Two main points can be drawn from the table.1. The survey forecast regressions generally yield estimates of β 1that are signiÞcantly different from zero which provides evidence
6.4. APPARENT VIOLATIONS OF RATIONALITY 185Table 6.4: Empirical Estimates from Studies of Survey ForecastsData SetEconomist MMS AMEX CFD BIC—USD BIC—DEMHorizon: 3-monthsβ 1 2.513 6.073 – – 5.971 1.930t(β 1 =1) 1.945 2.596 – – 1.921 -0.452t(β 2 =1) 1.304 -0.182 – 0.423 1.930 0.959t-test 1.188 -2.753 – -2.842 5.226 -1.452Horizon: 6-monthsβ 1 2.986 – 3.635 – 5.347 1.841t(β 1 =1) 1.870 – 2.705 – 2.327 -0.422β 2 1.033 – 1.216 – 1.222 0.812t(β 2 =1) 0.192 – 1.038 – 1.461 -4.325Horizon: 12-monthsβ 1 0.517 – 3.108 – 5.601 1.706t(β 1 =1) 0.421 – 2.400 – 3.416 0.832β 2 0.929 – 0.877 1.055 1.046 0.502t(β 2 =1) -0.476 – -0.446 0.297 0.532 -6.594Notes: Estimates from the Economist, Money Market Services, and American Expresssurveys are from Froot and Frankel [65]. Estimates from the CurrencyForecasters’ Digest survey are from Frankel and Chinn [58], and estimates from theBusiness <strong>International</strong> Corporation (BIC) survey from Cavaglia et. al. [23]. BIC—USD is the average of individual estimates for 10 dollar exchange rates. BIC—DEMis the average over 8 deutschemark exchange rates.
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CONTENTSvii11 Balance of Payments C
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2 CHAPTER 1. SOME INSTITUTIONAL BAC
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106 CHAPTER 4. THE LUCAS MODEL(76)
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126 CHAPTER 4. THE LUCAS MODEL4.5 C
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234 CHAPTER 8. THE MUNDELL-FLEMING
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264CHAPTER 9. THE NEW INTERNATIONAL
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308 CHAPTER 10. TARGET-ZONE MODELSa
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324 CHAPTER 10. TARGET-ZONE MODELS
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326 CHAPTER 10. TARGET-ZONE MODELS
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328 CHAPTER 11. BALANCE OF PAYMENTS
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358 AUTHOR INDEXFama, E.F., 161, 16
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Subject IndexAAbsorption, 16, 230AI
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362 SUBJECT INDEXEfficient capital
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364 SUBJECT INDEXMethod of undeterm
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366 SUBJECT INDEXRisk neutrality, 9
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368 SUBJECT INDEXImpulse response a
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