Test of the validity of the uncovered interest parity in the Brazil between 2001 and 2007

Abstract

The uncovered interest parity (UIP) declares that the arbitration will make that similar bonds in two different countries have the same net return. If a bond from one country pays a higher interest rate than the international interest rate, there is an expectation of depreciation of its currency and thus it is expected that the actual return of the bond converge to the international interest rate. However, in recent years, the Brazilian securities have paid an interest rate above the international interest rate and its currency has been appreciating against the dollar, making the actual return of the securities of the country bigger than the international. Therefore, in this study, we test the UIP to Brazilian economy between November 2001 and September 2007 – one period in which Brazil has adopted a floating exchange rate. A tool for testing are the ordinary least squares, adjusted for possible autocorrelation between the error terms. We test if the interest rate differential is statistically significant in the exchange rate change. In addition, we compare the process of formation of expectations about the exchange rate – rational expectations and survey from the Relatório Focus – on the UIP.