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The Economics of Exchange Rates (Collected Works of Harry Johnson) by Harry G. Johnson, Jacob A. Frenkel

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CHAPTER 9

RISK, INFORMATION, AND FORWARD EXCHANGE RATES

ALAN C. STOCKMAN

University of California, Los Angeles

INTRODUCTION

Foreign exchange risk plays an important role in international monetary economics, yet it is rarely defined in a precise manner so that its consequences can be analyzed and empirically investigated. This paper shows that the risk of holding assets denominated in foreign exchange can be related to the stochastic properties of the rates of return on foreign and domestic currencies and on alternative investments. These stochastic properties combine with people’s tastes for risk to determine the magnitudes of risk premiums on foreign exchange. These risk premiums can be studied empirically by examining forward exchange rates. ...

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