nep-ifn New Economics Papers
on International Finance
Issue of 2009‒03‒07
eight papers chosen by
Yi-Nung Yang
Chung Yuan Christian University

  1. Further evidence on the PPP analysis of the Australian dollar: non-linearities, fractional integration and structural changes By Juan Carlos Cuestas; Luís A. Gil-Alana
  2. Asset prices and exchange rates: a time dependent approach By Giulia PICCILLO
  3. Can Open Capital Markets Help Avoid Currency Crises? By Gus Garita; Chen Zhou
  4. Foreign exchange and stock market: tow related markets? By Giulia PICCILLO
  5. Private information, stock markets, and exchange rates By Jacob Gyntelberg; Mico Loretan; Tientip Subhanij; Eric Chan
  6. Taylor Rules and the Euro By Tanya Molodtsova; Alex Nikolsko-Rzhevskyy; David H. Papell
  7. Fiscal Shocks and The Real Exchange Rate By Agustín S. Bénétrix and Philip R. Lane
  8. Indian Capital Control Liberalization: Evidence from NDF Markets By Hutchison, Michael; Kendall, Jake; Pasricha, Gurnain Kaur; Singh , Nirvikar

  1. By: Juan Carlos Cuestas; Luís A. Gil-Alana
    Abstract: The aim of this paper is to analyse the empirical fulfilment of the Purchasing Power Parity (PPP) theory for the Australian dollar. In order to do so we have applied recently developed unit root tests that account for asymmetric adjustment towards the equilibrium (Kapetanios et al., 2003) and fractional integration in the context of structural changes (Robinson, 1994, and Gil-Alana, 2008). Although our results point to the rejection of the PPP hypothesis, we find that the degree of persistence of shocks to the Australian dollar decreases after the 1985 currency crisis.
    Keywords: PPP, Real Exchange Rate, Unit Roots, Non-linearities, Fractional integration
    JEL: C32 F15
    Date: 2009–02
  2. By: Giulia PICCILLO
    Abstract: The paper studies the relationship between exchange rates and asset prices. It takes the approach of order ows to exchange rates. Specifically, it focuses on the effect of time-dependent risk aversion. The switch in the parameter causes the equilibrium of the system to alternate between two regimes: an optimistic and a pessimistic one. The paper is complete of a wide empirical section where the two equilibria are identified and specified for three of the main world markets. The regimes appear to be persistent and consistent with the existing literature on risk aversion. This also includes recent events of the financial crisis. The analysis uncovers a new development for exchange rate microstructure models. 3 of the 4 markets studied are consistent with both the order flow and the Markov switching models. The markets analyzed are the UK, Switzerland, Germany and Japan.
    Keywords: Exchange rates, Microstructure, Markov chains
    JEL: C2 F3 G1
    Date: 2008–12
  3. By: Gus Garita; Chen Zhou
    Abstract: By proposing a measure for cross-market rebalancing effects, we provide new insights into the different sources of currency crises. We address three interrelated questions: (i) How can we best capture contagion; (ii) Is the contagion of currency crisis a regional or global phenomenon?; and (iii) By controlling for “cross-market rebalancing” do other mechanisms like "financial openness" increase the probability of a currency crisis? We introduce the concept of conditional probability of joint failure (CPJF) to measure the linkages of currency crisis intra- and inter-regionally. From estimating this measure, we test for contagion and conclude that contagion only exists regionally. Furthermore, we construct a “cross-market rebalancing” variable based on the regional CPJF. By employing a probit model to compare our new variable with a regular contagion variable often used in literature, we conclude that our new variable captures contagion better; moreover, it also captures cross-market rebalancing effects. When we properly account for these effects, then financial openness helps to diminish the probability of a currency crisis even after controlling for the onset of a banking crisis. We also show that monetary policy geared towards price stability reduces the probability of a currency crisis.
    Keywords: Crisis; Contagion; Cross-Market Rebalancing; Exchange Market Pressure; Extreme Value Theory; Financial Integration.
    JEL: C10 E44 F15 F36 F37
    Date: 2009–02
  4. By: Giulia PICCILLO
    Abstract: This paper studies the relationship between the stock market and the exchange rate in several countries. The approach taken in the first part of this study is a linear VAR, to be compared in the following part to a MSVAR. The data is also analyzed by Granger causality tests in both contexts and a thorough description of the empirical results obtained is shown. The research uncovers a spread (but not constant over time) causality from the exchange rate and American stock market to the local markets of the different nations studied. The non-linear, time varying approach allows several considerations on the dynamics of the relationship. The markets analyzed are the Japanese, the British and the German (pre-Euro) market against the US Dollar and the US stock market. The frequency of the data used is daily.
    Date: 2008–09
  5. By: Jacob Gyntelberg; Mico Loretan; Tientip Subhanij; Eric Chan
    Abstract: Explaining exchange rates has long been an important but vexing issue in international economics and finance. In recent years, a number of studies have shown that investors' private information plays a central role in determining exchange rates. We demonstrate in this paper that the private information of investors relevant for exchange rates is largely connected to the stock market, and that this information is conveyed to foreign exchange (FX) markets by order flow that is induced by investors' transactions in the stock market. We establish these results by analyzing several novel unused datasets on nearly two years' worth of daily-frequency capital flows of nonresident investors in the foreign exchange, stock, and bond markets of Thailand. We present compelling evidence that FX order flow that is induced by nonresident investors transactions in the Stock Exchange of Thailand - which we show are driven largely by private information - has far greater explanatory power for the exchange rate than other order flow has, both in the short run and the long run. In contrast, FX order flow of nonresident investors that is related to their transactions in Thai government bonds - which we find are not driven appreciably by private information - does not have a statistically significant effect on the exchange rate.
    Keywords: Exchange rate models, market microstructure approach, asymmetric information, Thailand, generated regressors, impulse response functions, I(1) measurement error
    Date: 2009–02
  6. By: Tanya Molodtsova; Alex Nikolsko-Rzhevskyy; David H. Papell
    Abstract: This paper uses real-time data to show that inflation and either the output gap or unemployment, the variables which normally enter central banks’ Taylor rules for interest-rate-setting, can provide evidence of out-of-sample predictability and forecasting ability for the United States Dollar/Euro exchange rate from the inception of the Euro in 1999 to the end of 2007. We also present less formal evidence that, with real-time data, the Taylor rule provides a better description of ECB than of Fed policy during this period. The strongest evidence is found for specifications that neither incorporate interest rate smoothing nor include the real exchange rate in the forecasting regression, and the results are robust to whether or not the coefficients on inflation and the real economic activity measure are constrained to be the same for the U.S. and the Euro Area. The evidence is stronger with inflation forecasts than with inflation rates and with real-time data than with revised data. Bad news about inflation and good news about real economic activity both lead to out-of-sample predictability and forecasting ability through forecasted exchange rate appreciation.
    Date: 2009–02
  7. By: Agustín S. Bénétrix and Philip R. Lane
    Abstract: We estimate the impact of shocks to government spending on the real exchange rate for a panel of EMU member countries. Our key finding is that the impact differs across different types of government spending, with shocks to public investment generating a larger and more persistent impact on the real exchange rate than shocks to government consumption. Within the latter category, we also show that the impact of shocks to the wage component of government consumption is larger than for shocks to the non-wage component.
    Date: 2009–03–03
  8. By: Hutchison, Michael; Kendall, Jake; Pasricha, Gurnain Kaur; Singh , Nirvikar
    Abstract: The Indian government has taken a number of incremental measures to liberalize legal and administrative impediments to international capital movements in recent years. This paper analyzes the extent to which the effectiveness of capital controls in India, measured by the domestic less net foreign interest rate differential (deviations from covered interest rate parity) have changed over time. We utilize the 3-month offshore non-deliverable forward (NDF) market to measure the effective foreign interest rate (implied NDF yield). Using the self exciting threshold autoregression (SETAR) methodology, we estimate a no-arbitrage band width whose boundaries are determined by transactions costs and capital controls. Inside of the bands, small deviations from CIP follow a random walk process. Outside the bands, profitable arbitrage opportunities exist and we estimate an adjustment process back towards the boundaries. We allow for asymmetric boundaries and asymmetric speeds of adjustment (above and below the band thresholds), which may vary depending on how arbitrage activity is constrained by capital controls. We test for structural breaks, identify three distinct periods, and estimate these parameters over each sub-sample in order to capture the de facto effect of changes in capital controls over time. We find that de facto capital control barriers: (1) are asymmetric over inflows and outflows, (2) have changed over time from primarily restricting outflows to effectively restricting inflows (measured by band widths and positions); (3) arbitrage activity closes deviations from CIP when the threshold boundaries are exceeded in all sub-samples. In recent years, capital controls have been more symmetric over capital inflows and outflows and the deviations from CIP outside the boundaries are closed more quickly.
    Keywords: capital controls; non-deliverable forward markets; India; economic reform; liberalization
    JEL: G15 F31 F36
    Date: 2009–01–17

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