Is the forward rate for the Greek drachma unbiased? A VECM analysis with both overlapping and non-overlapping data

This paper uses cointegration techniques to test the hypothesis that the forward rate for the Greek drachma-US dollar exchange rate is an unbiased predictor of the future spot rate. The relationship between cointegration and error correction models is exploited, and a full Vector Error Correction Model is estimated with a priori assumptions. It is demonstrated that the unbiasedness hypothesis imposes restrictions not only on the elements of the cointegrating vector but also on the coefficients of the error correction equations, and both sets of restrictions are explicitly tested. These tests are conducted for Greek drachma after the abolition of Greek capital controls and before entry to the ERM. Both overlapping and non-overlapping observations are used, and the results from these different data sets are compared. Some possible explanations are provided for the empirical failure of the forward rate unbiasedness hypothesis for Greece.