|
on International Finance |
| By: | Michael Kumhof; Stijn van Nieuwerburgh |
| Abstract: | Standard theory shows that sterilized foreign exchange interventions do not affect equilibrium prices and quantities, and that domestic and foreign currency denominated bonds are perfect substitutes. This paper shows that when fiscal policy is not sufficiently flexible in response to spending shocks, perfect substitutability breaks down and uncovered interest rate parity no longer holds. Government balance sheet operations can be used as an independent policy instrument to target interest rates. Sterilized foreign exchange interventions should be most effective in developing countries, where fiscal volatility is large and where the fraction of domestic currency denominated government liabilities is small. |
| Keywords: | Sterilized foreign exchange intervention , imperfect asset substitutability , uncovered interest parity , portfolio balance theory , |
| Date: | 2007–04–02 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:07/72&r=ifn |
| By: | Mauro S. Ferreira (Cedeplar-UFMG) |
| Abstract: | Quantile autoregression is used to explore asymmetries in the adjustment process of pair wise real exchange rate between the Italian lire, French franc, Deutsch mark, and the British pound. Based on the best specification for each quantile we construct predicted conditional density functions which guided us to identify two sources of asymmetry: 1) dispersion depends on the conditioned value of the real exchange rate, i.e., “conditional” heterokedasticity; 2) the probability of increases and falls also changes according to the conditioned value, i.e., there is higher probability for the real exchange rate to appreciate (depreciate) given the currency is depreciated (appreciated).We only verified strong heterokedasticity in relations among the lire, franc, and mark, which was resolved by estimating quadratic autoregressive model for some quantiles. Relations involving the pound presented stable but higher dispersion indicating larger probability of wider oscillation. |
| Keywords: | exchange rate; quantile autoregression; unit root; asymmetry |
| JEL: | C14 C22 F31 |
| Date: | 2007–04 |
| URL: | http://d.repec.org/n?u=RePEc:cdp:texdis:td306&r=ifn |
| By: | Michael Kumhof; Shujing Li; Isabel K. Yan |
| Abstract: | This paper analyzes a small open economy model under inflation targeting. It shows why such a monetary regime is vulnerable to speculative attacks that take place over a short period rather than instantaneously. The speed at which the regime collapses, and the extent of reserve losses, are increasing in the central bank's explicit or implicit commitment to intervene in the foreign exchange market. Attacks are therefore ranked, from most to least severe, as follows: Exchange rate targeting, CPI inflation targeting, domestic nontradables inflation targeting, and money targeting. Under inflation targeting the size of the attack is increasing in the tradables consumption share. |
| Keywords: | Balance of payments crisis , inflation targeting , exchange rate targeting , foreign exchange intervention , flow speculative attack , |
| Date: | 2007–04–09 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:07/84&r=ifn |
| By: | Dagfinn Rime (Norges Bank (Central Bank of Norway)); Lucio Sarno (Universty of Warwick and CEPR); Elvira Sojli (Universty of Warwick) |
| Abstract: | This paper investigates the empirical relation between order flow and macroeconomic information in the foreign exchange market, and the ability of microstructure models based on order flow to outperform a naive random walk benchmark. If order flow reflects heterogeneous beliefs about macroeconomic fundamentals, and currency markets learn about the state of the economy gradually, then order flow can have both explanatory and forecasting power for exchange rates. Using one year of high frequency data for three major exchange rates, we demonstrate that order flow is intimately related to a broad set of current and expected macroeconomic fundamentals. More importantly, we find that order flow is a powerful predictor of daily movements in exchange rates in an out-of-sample exercise. The Sharpe ratio obtained from allocating funds using forecasts generated by an order flow model is generally above unity and substantially higher than the Sharpe ratios obtained from alternative models, including the random walk model. |
| Keywords: | Exchange rate, Microstructure, Order flow, Forecasting, Macroeconomic news. |
| JEL: | F31 F41 G10 |
| Date: | 2007–04–20 |
| URL: | http://d.repec.org/n?u=RePEc:bno:worpap:2007_02&r=ifn |
| By: | Dudley Cooke (University of Essex) |
| Abstract: | This paper studies the short-run transmission of foreign shocks in a small open economy with capital controls and a fixed exchange rate. Capital controls alter the transmission of shocks because endogenous changes in the domestic nominal interest rate affect savings and investment decisions. The economy's reaction to export shocks hinges on how the government chooses to restrict capital flows; that is, whether inflows or outflows are restricted. For foreign interest rate shocks, private capital flows are important, but so are the government's holdings of foreign exchange reserves. Finally, a simple graphical apparatus is developed to provide a contrast to the case when capital flows are unrestricted. |
| Keywords: | capital controls; foreign shocks |
| JEL: | E58 F32 F41 |
| Date: | 2007–04 |
| URL: | http://d.repec.org/n?u=RePEc:kud:epruwp:07-02&r=ifn |
| By: | Alexander Chudik; Joannes Mongardini |
| Abstract: | This paper presents a methodology to estimate equilibrium real exchange rates (ERER) for Sub-Saharan African (SSA) countries using both single-country and panel estimation techniques. The limited data set hinders single-country estimation for most countries in the sample, but panel estimates are statistically and economically significant, and generally robust to different estimation techniques. The results replicate well the historical experience for a number of countries in the sample. Panel techniques can also be used to derive out of sample estimates for countries with a more limited data set. |
| Keywords: | Equilibrium exchange rates , Africa , panel estimations , |
| Date: | 2007–04–17 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:07/90&r=ifn |
| By: | Guy Meredith |
| Abstract: | We use a general-equilibrium model to explain the rise in global trade and payments imbalances since the mid-1990s, and then to construct adjustment paths to a steady state. Assuming that the shocks giving rise to the imbalances do not suddenly reverse, simulated movements in the U.S. trade deficit and exchange rate are smaller and more gradual than suggested by partial-equilibrium analyses. An important factor reducing the size of the adjustments is a simulated real interest rate on U.S. external liabilities that is below both the interest rate on external assets and the U.S. real economic growth rate. In addition, the adjustment takes place over an extended period without significantly raising the share of U.S. assets in foreign portfolios, in part because depreciation of the dollar requires continued foreign accumulation of U.S. assets just to keep their portfolio share constant. |
| Keywords: | Debt dynamics; global imbalances; international adjustment , |
| Date: | 2007–01–11 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:07/4&r=ifn |
| By: | Kinga Z. Elo |
| Abstract: | This paper examines how capital controls affect FDI decisions and how the impact of these restrictive measures varies with different levels of country risk. We construct a model of firms' FDI decisions, broadly in Dunning's "eclectic theory" framework, using "real options" to emphasize economic uncertainty and country risk. Numerical results of the model take the form of "quality statistics" that uncover the underlying dynamics hidden in the aggregate data that is responsible for the low performance of recent empirical studies. We find that increasing levels of capital controls reduce the life-span of FDI investments at each level of country risk and foreign investors' willingness towards risk sharing increases. We reveal a significant interaction between capital control and country risk, resulting in a nonlinear relationship between these and the volatility and volume statistics. We estimate a standard cross-sectional model that provides strong support for our theoretical findings. |
| Keywords: | Foreign direct investments , capital controls , decisions under uncertainty , |
| Date: | 2007–04–05 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:07/79&r=ifn |