nep-ifn New Economics Papers
on International Finance
Issue of 2008‒03‒01
eleven papers chosen by
Yi-Nung Yang
Chung Yuan Christian University

  1. Real interest rate parity: evidence from East Asian economies relative to China By Liew , Venus Khim-Sen; Ling, Tai-Hu
  2. The real interest rate differential: international evidence based on nonlinear unit root tests By Baharumshah, Ahmad Zubaidi; Liew, Venus Khim-Sen; Chan, Tze-Haw
  3. Five Years with the Euro By Lorca-Susino, Maria
  4. Assessing estimates of the exchange rate pass-through By Ida Wolden Bache
  5. The Duration of Capital Account Crises--An Empirical Analysis By David Hofman; Ruben Atoyan; Dimitri Tzanninis; Mauro Mecagni
  6. On Asymmetry of Exchange Rate Volatility in New EU Member and Candidate Countries By Stavarek, Daniel
  7. A Markov-Switching Approach to Measuring Exchange Market Pressure By Francis Y. Kumah
  8. Monetary exchange rate model: supportive evidence from nonlinear testing procedures By Liew , Venus Khim-Sen; Baharumshah, Ahmad Zubaidi; Habibullah, Muzafar Shah; Midi, Habshah
  9. How should we think about markets for foreign exchange? By John Pippenger
  10. Real Exchange Rates and Fundamentals: A Cross-Country Perspective By Jaewoo Lee; Gian Maria Milesi-Ferretti; Luca Antonio Ricci
  11. Exchange Market Pressure in African Lusophone Countries By Macedo, Jorge Braga de; Pereira, Luis Brites; Reis, Afonso Mendonça

  1. By: Liew , Venus Khim-Sen; Ling, Tai-Hu
    Abstract: This study examines the real interest rate parity (RIP) hypothesis in the case of East Asian economies by taking China as foreign counterpart. Results obtained from panel unit root tests are in line with previous findings that are supportive of the hypothesis. The estimated half-life of the RIP deviations is 3.21 quarters, indicating RIP holds strongly in this region with respect to China. This implies that the choices and effectiveness of the monetary and fiscal policies in the East Asian economies will be very much influenced by the external factors originating from China, in additional to Japan and US as identified in other studies. Furthermore, judging from the another finding of this study that East Asian economies is more integrated with Japan than China, China has yet to further liberalize its financial system before it can overtake Japan as leading financial centre or as anchor country for common currency area in this region.
    Keywords: Real interest rate parity;East Asia; panel unit root test
    JEL: C23 F41 F36
    Date: 2008
  2. By: Baharumshah, Ahmad Zubaidi; Liew, Venus Khim-Sen; Chan, Tze-Haw
    Abstract: This paper aims at testing international parity conditions by using nonlinear unit root tests advocated by Kapetanios et al. (2003, KSS). Results from the KSS tests based on 17 countries (G7 and 10 Asian countries) overwhelmingly show that the adjustment of real interest rates towards the RIP follows a nonlinear process except for the Malaysian relationships with both the US and Japan. Overall, the empirical results are in favor of RIP using the US and Japan as the center countries but only if nonlinearities are accounted for in the data generating process. Our findings confirm that interest rate differentials, like the real exchange rates reported in recent literature, display a nonlinear mean reversion process.
    Keywords: real interest parity; nonlinearities; unit root tests
    JEL: F32 F36
    Date: 2007
  3. By: Lorca-Susino, Maria
    Abstract: Since the start of the European Monetary Union there has been an intense debate on whether the euro would challenge the U.S. dollar’s dominant role first as an international currency, and then as an official reserve currency. Five years after the euro was born, it is considered without doubt an international currency since it has been reported that ¨in December (2006) the currency came of age by overtaking the U.S. dollar in terms of the value of notes in circulation¨1. Moreover, since the euro has successfully developed a solid financial market, it is consequently eroding some of the advantages that historically supported the hegemony of the U.S. dollar as a reserve currency. There are two intertwined reasons that explain why the U.S. dollar remains the leading international currency. To begin with, there is (1) inertia in the use of the U.S. dollar due to years of currency pre-eminence which (2) has helped the U.S. dollar to have an edge over the euro in terms of the size, credit quality and liquidity of the dollar financial markets over the euro market. Despite all this, the euro has been enjoying a successful moment in the last years since it is appreciating against the U.S. dollar especially since mid-2002
    Keywords: Euro; international currency; definition of money;
    JEL: G0
    Date: 2007–02
  4. By: Ida Wolden Bache (Norges Bank (Central Bank of Norway))
    Abstract: This paper uses Monte Carlo techniques to address the question: are structural VAR estimates of exchange rate pass-through a useful tool to evaluate macroeconomic models of open economies? The data generating process is a small open economy DSGE model with incomplete pass-through. The results suggest that (i) the pass-through estimates obtained from a first-differenced VAR exhibit a systematic downward bias; (ii) by contrast, estimates derived from a low order vector equilibrium correction model are fairly accurate; but (iii) standard cointegration tests have low power to detect the cointegration relations implied by the DSGE model.
    Keywords: Exchange rate pass-through, structural VAR, DSGE models, cointegration
    JEL: C32 C52 F41
    Date: 2008–01–11
  5. By: David Hofman; Ruben Atoyan; Dimitri Tzanninis; Mauro Mecagni
    Abstract: This paper examines the duration of capital account crises. We develop a new index to identify both the start and the end of these crises. Applying the index to a sample of 18 crisis episodes, we derive stylized facts on crisis duration and review the economic and financial circumstances that prevailed at the dusk of crises, a relatively unexplored area. We use the econometric technique of duration analysis to gauge the relative importance of various factors affecting the probability of exiting a crisis. We find that initial and external conditions are key determinants. But fiscal and monetary policies can also help shorten crisis duration.
    Keywords: Financial crisis , Capital account ,
    Date: 2007–11–08
  6. By: Stavarek, Daniel
    Abstract: In this paper, we examine the exchange rate volatility in selected new EU Member States (Czech Republic, Hungary, Poland, Slovakia) and candidate countries (Croatia, Romania, Turkey) using TARCH model and daily data from the period May 2004 – December 2006. Besides the volatility estimation, the paper analyzes the asymmetric effects. The results suggest that some symptoms of asymmetry were found in all exchange rates except for CZK/EUR. However, the most distinct effects are evident in Slovakia and Turkey where the appreciation of the national currency and the appreciation-side deviation from the target exchange rate contribute significantly to the increase in the exchange rate volatility.
    Keywords: asymmetry; European Union; exchange rate volatility; TARCH models
    JEL: G15 F31
    Date: 2007
  7. By: Francis Y. Kumah
    Abstract: This paper characterizes exchange market pressure as a nonlinear Markov-switching phenomenon, and examines its dynamics in response to money growth and inflation over three regimes. The empirical results identify episodes of exchange market pressure in the Kyrgyz Republic and confirm the statistical superiority of the nonlinear regime-switching model over a linear VAR version in understanding exchange market pressure. The nonlinear empirical approach adequately characterizes the data generation process and yields results that are consistent with theoretical predictions, particularly the dampening effect of monetary contraction on depreciation pressure. During periods of appreciation pressure, however, the reverse policy option-monetary expansion-may not be efficient, particularly where PPP rather than UIP drives exchange rates. In addition, monetary expansion in such cases defeats the primary objective of monetary policy-price stability-and may exacerbate the instability.
    Keywords: Working Paper , Exchange rate regimes , Monetary policy , Price stabilization , Kyrgyz Republic , Economic models ,
    Date: 2007–10–24
  8. By: Liew , Venus Khim-Sen; Baharumshah, Ahmad Zubaidi; Habibullah, Muzafar Shah; Midi, Habshah
    Abstract: Using nonlinear testing procedures relevant to the recent literature, this study provides evidence of nonlinear adjustment of nominal exchange rate towards monetary fundamentals in the context of ASEAN-5 countries. While it supports earlier findings supportive of monetary exchange rate model in this region using the linear testing procedures, this study provides insightful information in explaining why persistent misalignments between nominal exchange rate and monetary fundamentals are often observed in the sample data.
    Keywords: monetary model; exchange rate; nonlinear; unit root test; linearity test; STAR model
    JEL: C32 F31
    Date: 2008
  9. By: John Pippenger (University of California, Santa Barbara)
    Abstract: As support for traditional asset models of the foreign exchange market fades, there is growing interest in more general models that include flows from international trade and international investment. One advantage of flow models is that they fit naturally into the recent literature on microstructure, particularly the work on order flow. My objective here is to use intervention data to help discriminate between traditional asset models of the foreign exchange market and more general flow models. The evidence supports a flow approach.
    Keywords: exchange rates, foreign exchange markets, intervention,
    Date: 2007–11–07
  10. By: Jaewoo Lee; Gian Maria Milesi-Ferretti; Luca Antonio Ricci
    Abstract: This paper employs newly constructed measures for productivity differentials, external imbalances, and commodity terms of trade to estimate a panel cointegrating relationship between real exchange rates and a set of fundamentals for a sample of 48 industrial countries and emerging markets. It finds evidence of a strong positive relation between the CPI-based real exchange rate and commodity terms of trade. The estimated impact of productivity growth differentials between traded and nontraded goods, while statistically significant, is small. Increases in net foreign assets and in government consumption tend to be associated with appreciating real exchange rates.
    Keywords: Real effective exchange rates , Productivity , Trade ,
    Date: 2008–01–30
  11. By: Macedo, Jorge Braga de; Pereira, Luis Brites; Reis, Afonso Mendonça
    Abstract: This paper explores the credibility of exchange rate arrangements for the five African Portuguese-speaking (PALOP) countries. Our working hypothesis is that credibility necessarily implies low mean exchange market pressure (EMP), low EMP conditional volatility and low-severity EMP crises. In addition, economic fundamentals must account for EMP dynamics. We also seek evidence of a risk-return relationship for mean EMP and of “bad news” (negative shocks) having a greater impact on EMP volatility than “good news” (positive shocks). Using our econometric models, we are able to rank PALOP countries’ conditional volatility in ordinal terms. Our main conclusion is that countries with currency pegs, such as Guinea-Bissau (GB) and Cape Verde (CV), clearly have lower volatility when compared to those with managed floats and are therefore more credible. Moreover, EMP crises episodes under pegs are much less severe. We find that economic fundamentals correctly account for mean EMP in all countries and that the risk-return relationship is much more favourable for investors under currency pegs, as the increase in volatility is lower for the same rate of return. The exception to this finding is Mozambique (MOZ), which apparently has a risk-return profile akin to that enjoyed by countries with pegs. A plausible reason is that MOZ has the only managed float in our sample implementing monetary and exchange rate policy within the confines of an IMF framework, which establishes floors for international reserves and ceilings for the central bank’s net domestic assets. This intuition needs to be tested, however. EMP conditional volatility is generally driven by changes in domestic credit (lowers it) and foreign reserve changes (raises it). The first effect is more pronounced under currency pegs, but also under MOZ’s managed float. “Bad news” increases volatility more that “good news” only in the case of CV’s currency peg, which we take to be another sign of its credibility. A few striking cross-country comparisons also emerge in our analysis. Among countries with managed floats, we find that Angola (ANG) has the most severe EMP crises whilst MOZ has the least severe. São Tomé & Princípe (STP), meanwhile, lies between these two extremes but its EMP crises behaviour is clearly much closer to that of MOZ. STP’s credibility may also be improving since its volatility has declined as of 2002 and its level is now much closer to that of MOZ, whose managed float has lowest volatility of such arrangements.
    Date: 2008

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