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on International Finance |
| By: | Bask, Mikael (Bank of Finland Research) |
| Abstract: | Since the magnitude of exchange rate overshooting may not be the same for different exchange rates of a currency, a monetary expansion or contraction in, for example, the EMU, will affect the exchange rate between the U.S. dollar and the yen, even though there are no changes in monetary fundamentals in the U.S. or Japan. This fact is demonstrated in a sticky-price monetary model due originally to Dornbusch (1976) that is enlarged with currency traders that use Chartism in the form of moving averages. It is also demonstrated that purchasing power parity (PPP) does not necessarily hold in long-run equilibrium. The-se results are interesting since, according to the empirical literature, there are often large movements in nominal exchange rates that are apparently unexplained by macroeconomic fundamentals, and there is also a weak support for PPP. |
| Keywords: | Chartism; foreign exchange; macroeconomic fundamentals; moving averages; overshooting and PPP |
| JEL: | F31 F41 |
| Date: | 2006–10–10 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2006_008&r=ifn |
| By: | Bask , Mikael (Bank of Finland Research) |
| Abstract: | The aim of this paper is to analyse the announcement effects on exchange rate movements using the basic asset pricing model, where currency trade is partly determined by technical trading in the form of moving averages since it is the most commonly used technique according to questionnaire surveys. Specifically, the announcement and implementation of temporary as well as permanent monetary policy are analysed, where the exchange rate model developed is summarised in a linear difference equation in current exoge-nous fundamentals, a large number of lags of the endogenous exchange rate and time-t dating of exchange rate expectations. However, since there are a large number of rational expectations equilibria, continuity is proposed as a selection criterion among the equilibria, meaning that the parameter for the time-t – 1 ex-change rate should have the limit 0 when there is no technical trading to have an economically meaning-ful equilibrium. It turns out that there is a unique rational expectations equilibrium that satisfy the conti-nuity criterion, and focusing on this equilibrium, it is shown that the exchange rate is much more sensitive to changes in money supply than when technical trading is absent in currency trade. This result is impor-tant since it sheds light on the so-called exchange rate disconnect puzzle in international finance. |
| Keywords: | asset pricing; exchange rate disconnect puzzle; heterogeneous agents; least squares learnability; monetary policy and technical trading |
| JEL: | E51 E52 F31 G12 |
| Date: | 2006–06–07 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2006_006&r=ifn |
| By: | Berka, Martin |
| Abstract: | Modelling of the physical characteristics of goods and geography can explain both the puzzling persistence and volatility in the deviations of the international relative prices and the real exchange rate (the PPP persistence puzzle). In a two-country, three-good general equilibrium model, arbitrage firms trade goods across borders using a linear transportation technology. Distance and product weights (their physical mass) determine the costs to arbitrage trade, while the differences in the endowments between countries create profitable trading opportunities. Tradability of goods is endogenous, in that only goods with a deviation from the law of one price in excess of their trade cost are traded. The adjustment of prices across borders is non-linear, with heterogeneous thresholds that depend positively on the weight of a product and distance { an empirical regularity. Aggregation of the law of one price deviations implies a smooth threshold non-linearity in the real exchange rate, justifying a reoccurring finding in the recent empirical literature. When stochastic endowments follow an AR(1) process calibrated to match the quarterly HP-filtered US and EU GDPs, and the aggregate trade costs consume 1.7% of the GDP, the half-life of deviation in the real exchange rate matches the persistence found in the data. A model with quadratic adjustment costs in the volume of trade is also capable of creating real exchange rate volatility, and so can explain the PPP puzzle entirely as a trade phenomenon. |
| Keywords: | Arbitrage trade; real exchange rate; persistence; volatility |
| JEL: | F41 F19 F49 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:234&r=ifn |
| By: | Oleg Korenok (Department of Economics, VCU School of Business); Stanislav Radchenko (Department of Economics, University of North Carolina at Charlotte) |
| Abstract: | This paper proposes to model the error term in smooth transition autoregressive target zone model as Gaussian with stochastic volatility (STARTZ-SV) or as Student-t with GARCH volatility (STARTZ-TGARCH). Using the dynamics of Norwegian krone exchange rate index, we show that both models produce standardized residuals that are closer to assumed distributions and do not produce a hump in the estimated marginal distribution of exchange rate which is more consistent with theoretical predictions. We apply developed models to test whether the dynamics of oil price can be well approximated by the Krugman’s target zone model. Our estimates of conditional volatility and marginal distribution reject the target zone hypothesis. |
| Keywords: | target zone, oil price, exchange rate, stochastic volatility, griddy Gibbs, smooth transition |
| JEL: | C52 Q38 F31 |
| Date: | 2005–08 |
| URL: | http://d.repec.org/n?u=RePEc:vcu:wpaper:0505&r=ifn |
| By: | Bask , Mikael (Bank of Finland Research); Fidrmuc , Jarko (Department of Economics, University of Munich, CESifo and Comenius University in Bratislava) |
| Abstract: | We present a model of exchange rates, which incorporates the monetary approach and technical trading, and we present the reduced form based on the minimal state variable solution, where both fundamentals and backward-looking term determine the spot exchange rates. Finally, we estimate the impact of the monetary fundamentals for a panel of Central and Eastern European countries (Czech Republic, Poland, Romania and Slovakia) in the second half of the 1990s as well as the complete model of exchange rate determination for daily data over the more recent free-floating period. |
| Keywords: | foreign exchange market; fundamental analysis; panel cointegration; technical analysis |
| JEL: | C23 F31 F36 |
| Date: | 2006–06–12 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2006_010&r=ifn |
| By: | Lanne , Markku (Economics Department, European University Institute); Vesala , Timo (RUESG/Department of Economics, University of Helsinki) |
| Abstract: | We argue that a transaction tax is likely to amplify, not dampen, volatility in the foreign exchange mar-kets. Our argument stems from the decentralised trading practice and the presumable discrepancy be-tween ‘informed’ and ‘uninformed’ traders’ valuations. Since informed traders’ valuations are likely to be less dispersed, a transaction tax penalises informed trades disproportionately, leading to increased volatil-ity. Empirical support for this prediction is found by investigating the effect of transaction costs on the volatility of DEM/USD and JPY/USD returns. High-frequency data are used and an increase in transac-tion costs is found to have a significant positive effect on volatility. |
| Keywords: | transaction tax; exchange rates; volatility |
| JEL: | F31 F42 G15 G28 |
| Date: | 2006–10–10 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2006_011&r=ifn |
| By: | Andrén, Niclas (Institute of Economic Research); Oxelheim, Lars (Research Institute of Industrial Economics) |
| Abstract: | We analyze producer price developments in the transition from a national exchange rate regime to a monetary union. The focus is on the European Economic and Monetary Union (EMU). Stylized facts witness about an exploding gaps in producer-price inflation during the years immediately following the completion of the EMU. Price convergence is found to be an important driver throughout the entire euro period (1999-2005), but with no significant differences in speed compared to the pre euro period. Productivity growth had its primary effect in the first years and effective exchange-rate changes in the later years of the euro period. |
| Keywords: | Producer prices; Relative prices; Price convergence; Euro; Balassa-Samuelson |
| JEL: | E31 E44 F15 F23 G34 |
| Date: | 2006–09–22 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:iuiwop:0668&r=ifn |