nep-ifn New Economics Papers
on International Finance
Issue of 2007‒10‒06
eight papers chosen by
Yi-Nung Yang
Chung Yuan Christian University

  1. The uncovered return parity condition. By Lorenzo Cappiello; Roberto A. De Santis
  2. A structural investigation of third-currency shocks to bilateral exchange rates By Melecky, Martin
  3. Monetary information arrivals and intraday exchange rate volatility : A comparison of the GARCH and the EGARCH models. By Darmoul Mokhtar; Nizar Harrathi
  4. Trading activity and exchange rates in high-frequency EBS data By Alain P. Chaboud; Sergey V. Chernenko; Jonathan H. Wright
  5. Exchange rate pass-through to export prices: assessing some cross-country evidence By Robert J. Vigfusson; Nathan Sheets; Joseph Gagnon
  6. Foreign exchange intervention and central bank independence: The Latin American experience By Nunes, Mauricio; Da Silva, Sergio
  7. Monetary Policy, Default Risk and the Exchange Rate By Guimarães, Bernardo; Soares Gonçalves, Carlos Eduardo
  8. Reserve accumulation: objective or by-product? By Johannes Onno de Beaufort Wijnholds; Lars Søndergaard

  1. By: Lorenzo Cappiello (European Central Bank, Kaiserstraße 29, 60311 Frankfurt, Germany.); Roberto A. De Santis (European Central Bank, Kaiserstraße 29, 60311 Frankfurt, Germany.)
    Abstract: This paper proposes an equilibrium relationship between expected exchange rate changes and differentials in expected returns on risky assets. We show that when expected returns on a risky asset in a certain economy are higher than the returns that are expected from investing in a risky asset in another economy, then the currency corresponding to the economy whose asset offers higher returns is expected to depreciate. Due to its similarity with Uncovered Interest Parity (UIP), we call this equilibrium condition “Uncovered Return Parity” (URP). However, in the URP condition returns’ differentials are not known ex ante, while in the UIP they are. The paper finds empirical support in favour of URP for certain markets over some sample periods. JEL Classification: F30, F31, G12, C32.
    Keywords: Uncovered Interest Parity, Uncovered Return Parity, stochastic discount factor, GMM.
    Date: 2007–09
  2. By: Melecky, Martin
    Abstract: This paper investigates the impact of third-currency shocks on exchange rates within a three-country New Keynesian model. The third-currency shocks to bilateral exchange rates are structural shocks originating in a third country whose currency is not quoted in the bilateral exchange rate. Under the restrictions of the baseline three-country model the impact of the third-currency shocks on bilateral exchange rates is on average about ten times smaller than the impact of fundamental shocks to bilateral exchange rates. However, the estimated impulse responses show that bilateral exchange rates deviate significantly from their steady states in response to third-currency shocks. Further, under less restrictive formation of exchange rate expectations the size of the exchange rate responses to third-currency shocks can be as large as the exchange rate responses to fundamental shocks to bilateral exchange rates.
    Keywords: bilateral exchange rates; third-currency shocks; New Keynesian policy model; three-country system; US dollar; euro; Japanese yen.
    JEL: F31 F41 F36
    Date: 2007–10
  3. By: Darmoul Mokhtar (Centre d'Economie de la Sorbonne); Nizar Harrathi (LEGI - Ecole Polytechnique de Tunis)
    Abstract: In this article, we examine the intradaily Euro-dollar exchange rate volatility persistence result from the dissymmetric impact of monetary policy signals stemming from the ECB Council and the FOMC. A model is constructed by extending the AR(1)-GARCH (1,1) to an exponential process EGARCH (1,1), using high-frequency data (five minutes frequency) which integrates a polynomials structure depending on signal variables, starting from the deseasonalized exchange rate returns series. It is found that, unlike the equity market, the best volatility predictions are derived from the EGARCH(1,1) process.
    Keywords: Exchange rate, official intervention, monetary policy, GARCH models.
    JEL: C22 E52 F31 G15
    Date: 2007–06
  4. By: Alain P. Chaboud; Sergey V. Chernenko; Jonathan H. Wright
    Abstract: The absence of data has, until now, precluded virtually all research on trading volume in the foreign exchange market. This paper introduces a new high-frequency foreign exchange dataset from EBS (Electronic Broking Service) that includes trading volume in the global interdealer spot market. The dataset gives volumes and prices at the one-minute frequency over a five-year time period in the euro-dollar and dollar-yen currency pairs. We first document intraday volume patterns in euro-dollar and dollar-yen trading, noting the effects of macroeconomic news announcements but also purely institutional factors. We study the effects of UK-specific holidays on euro-dollar and dollar-yen trading volume and find that these holidays cause a sharp decline in trading volume even among dealers outside the UK, a natural experiment that we interpret as further evidence that trading activity is not driven solely by the flow of news about fundamentals. Studying the reaction to U.S. macroeconomic announcements, we show that a sharp pickup in trading volume generally occurs in the minutes following news announcements. This rise in trading volume happens even if the data release is entirely in line with market expectations, and it is often negatively related to the dispersion of ex-ante market expectations. Finally, focusing on one particular data release at the one-second frequency, we document a two-stage reaction whereby the price jumps immediately after the announcement without much trading volume, while trading volume and volatility then surge about 15 seconds after the data release.
    Date: 2007
  5. By: Robert J. Vigfusson; Nathan Sheets; Joseph Gagnon
    Abstract: A growing body of empirical work has found evidence of a decline in exchange rate pass-through to import prices in a number of industrial countries. Our paper complements this work by examining pass-through from the other side of the transaction; that is, we assess the exchange rate sensitivity of export prices (denominated in the exporter's currency). We first sketch out a streamlined analytical model that highlights some key factors that determine pass-through. Using this model as reference, we find that the prices charged on exports to the United States are more responsive to the exchange rate than is the case for export prices to other destinations, which is consistent with results in the literature suggesting that import price pass-through in the U.S. market is relatively low. We also find that moves in the exchange rate sensitivity of export prices over time have been significantly affected by country and region-specific factors, including the Asian financial crisis (for emerging Asia), deepening integration with the United States (for Canada), and the effects of the 1992 ERM crisis (for the United Kingdom).
    Date: 2007
  6. By: Nunes, Mauricio; Da Silva, Sergio
    Abstract: Employing data from 13 Latin American countries, we find that greater central bank independence is associated with lesser intervention in the foreign exchange market, and also with leaning-against-the-wind intervention. We also find that the structural reforms that occurred in Latin America mostly in the 1990s helped to reduce the need for foreign exchange intervention.
    Keywords: central bank independence; foreign exchange intervention; Latin America
    JEL: F31 F41
    Date: 2007–09–29
  7. By: Guimarães, Bernardo; Soares Gonçalves, Carlos Eduardo
    Abstract: In a country with high probability of default, higher interest rates may render the currency less attractive if sovereign default is costly. This paper develops that intuition in a simple model and estimates the effect of changes in interest rates on the exchange rate in Brazil using data from the dates surrounding the monetary policy committee meetings and the methodology of identification through heteroskedasticity. Indeed, we find that unexpected increases in interest rates tend to lead the Brazilian currency to depreciate. It follows that granting more independence to a central bank that focus solely on inflation is not always a free-lunch.
    Keywords: default; exchange rate; identification through heteroskedasticity; monetary policy
    JEL: E5 F3
    Date: 2007–09
  8. By: Johannes Onno de Beaufort Wijnholds (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Lars Søndergaard (World Bank 1818 H St N.W., Washington D.C. USA.)
    Abstract: This paper examines whether the level of reserves in emerging market countries has become excessive. It presents a discussion of “adequacy” versus “excessive” levels of reserves, and presents calculations of reserve adequacy for a large number of emerging market countries. Two categories of countries can be distinguished: i) those whose reserves have grown on account of a need for self-insurance against financial crises, and which tend to be reasonably in line with adequacy measures (mainly Latin American countries and countries in central and eastern Europe), and ii) those whose reserve accumulation is nowadays primarily the result of rapid export-led growth supported by a lack of exchange rate flexibility. This is especially the case for several emerging Asian countries, whose reserve levels have grown far beyond what can reasonably considered adequate. Various opinions on Asian exchange rate and reserves policies are examined, and the costs and benefits of currency undervaluation are assessed. Attention is also paid to the composition of the reserves. The paper concludes by bringing together the various strands of the analysis and enumerating the main implications of largescale reserve accumulation for the international monetary system. JEL Classification: F31, F41.
    Keywords: International reserve accumulation, emerging markets.
    Date: 2007–09

This nep-ifn issue is ©2007 by Yi-Nung Yang. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.