Exchange Rates; Term Structure of Interest Rates; Home Bias; Forward Premium Puzzle
In this study, a multi-country nonlinear model is constructed to simultaneously estimate the exchange rate dynamics and the term structure of interest rates in the US and in Switzerland. The model has better empirical performance compared to the earlier well-known affine international models. Risk premiums of bond yields vary between the two countries. The estimated state variables exhibit local characteristics. These conclusions imply the potential advantages of international diversification and demonstrate the Home Bias phenomenon. Exchange rate dynamics estimated by the models account for the Forward Premium Anomaly. Introduction of jump diffusions provides marginal improvement.