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on International Finance |
|
Issue of 2010‒06‒04
fourteen papers chosen by Ajay Shah National Institute of Public Finance and Policy |
| By: | Kathryn M.E. Dominguez (Gerald R. Ford School of Public Policy, University of Michigan); Rasmus Fatum (School of Business, University of Alberta); Pavel Vacek (School of Business, University of Alberta) |
| Abstract: | Many developing countries have increased their foreign reserve stocks dramatically in recent years, often motivated by the desire for precautionary self-insurance. One of the negative consequences of large accumulations for these countries is the risk of valuation losses. In this paper we examine the implications of systematic reserve decumulation by the Czech authorities aimed at mitigating valuation losses on euro-denominated assets. The policy was explicitly not intended to influence the value of the koruna relative to the euro. Initially the timing and size of reserve sales was not predictable, eventually sales occurred on a daily basis (in three equal installments within the day). This project examines whether these reserve sales, both during the regime of discretionary timing as well as when sales occurred every day, had unintended consequences for the domestic currency. Our findings using intraday exchange rate data and time-stamped reserve sales indicate that when decumulation occurred every day these sales led to significant appreciation of the koruna. Overall, our results suggest that the manner in which reserve sales are carried out matters for whether reserve decumulation influences the relative value of the domestic currency. |
| Keywords: | foreign exchange reserves; exchange rate determination; high-frequency volatility modeling |
| JEL: | E58 F31 F32 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:kud:epruwp:10-06&r=ifn |
| By: | Yu-chin Chen (University of Washington); Kwok Ping Tsang (Virginia Tech) |
| Abstract: | The nominal exchange rate is both a macroeconomic variable equilibrating international markets and a financial asset that embodies expectations and prices risks associated with cross border currency holdings. Recognizing this, we adopt a joint macro-finance strategy to model the exchange rate. We incorporate into a monetary exchange rate model macroeconomic stabilization through Taylor-rule monetary policy on one hand, and on the other, market expectations and perceived risks embodied in the cross-country yield curves. Using monthly data between 1985 and 2005 for Canada, Japan, the UK and the US, we employ a state-space system to model the relative yield curves between country-pairs using the Nelson and Siegel (1987) latent factors, and combine them with monetary policy targets (output gap and inflation) into a vector autoregression (VAR) for bilateral exchange rate changes. We find strong evidence that both the financial and macro variables are important for explaining exchange rate dynamics and excess currency returns, especially for the yen and the pound rates relative to the dollar. Moreover, by decomposing the yield curves into expected future yields and bond market term premiums, we show that both expectations about future macroeconomic conditions and perceived risks are priced into the currencies. These findings provide support for the view that the nominal exchange rate is determined by both macroeconomic as well as financial forces. |
| Date: | 2009–12 |
| URL: | http://d.repec.org/n?u=RePEc:udb:wpaper:uwec-2009-24-r&r=ifn |
| By: | Patnaik, Ila (National Institute of Public Finance and Policy); Shah, Ajay (National Institute of Public Finance and Policy); Sethy, Anmol (National Institute of Public Finance and Policy); Balasubramaniam, Vimal (National Institute of Public Finance and Policy) |
| Abstract: | Prior to the Asian financial crisis, most Asian exchange rates were de facto pegged to the US Dollar. In the crisis, many economies experienced a brief period of extreme flexibility. A `fear of oating' gave reduced exibility when the crisis subsided, but flexibility after the crisis was greater than that seen prior to the crisis. Contrary to the idea of a durable Bretton Woods II arrangement, Asia then went on to slowly raise flexibility and reduce the role for the US Dollar. When the period from April 2008 to December 2009 is compared against periods of high in flexibility, from January 1991 to November 1991 and October 1995 to March 1997, the increase in flexibility is economically and statistically significant. This paper proposes a new measure of dollar pegging, the "Bretton Woods II score". We find that by this measure Asia has been slowly moving away from a Bretton Woods II arrangement. |
| Keywords: | Exchange rate regime, Asia, Bretton Woods II hypothesis |
| JEL: | F31 F33 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:npf:wpaper:10/69&r=ifn |
| By: | Mustafa Caglayan (Department of Economics, The University of Sheffield Author-Person=pca30); Omar S. Dahi (Hampshire College); Firat Demir (University of Oklahoma) |
| Abstract: | We investigate the effects of real exchange rate uncertainty and financial depth on manufactures exports from 28 emerging economies to the North and South over 1978-2005. We estimate a dynamic panel model using system GMM approach and show that for the majority of countries in our sample exchange rate uncertainty affects both South-South and South-North trade negatively. Furthermore, for several cases we discover that this effect is unidirectional, that is South-South or South-North. In addition, we find that while financial depth plays a trade-enhancing role, exchange rate shocks can negate this effect. We also show that trade among developing economies is likely to enhance export growth. |
| Keywords: | Trade flows, Exchange rate uncertainty, South-South trade, Financial depth, Dynamic panel data |
| JEL: | F15 F31 G15 E44 O14 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:shf:wpaper:2010011&r=ifn |
| By: | Michael Princ (Institute of Economic Studies, Faculty of Social Sciences, Charles University, Prague, Czech Republic) |
| Abstract: | The study concentrates on an analysis of the Czech stock market performed by an application of DCC MV GARCH model of Engle (2002). Data sample including years from 1994 to 2009 is represented by daily returns of Prague Stock Exchange index and other 11 major stock indices. There is found an existence of increasing trend in conditional correlations among a whole European region. The trend reveals breakpoints splitting a data series into three phases of development. The analysis includes a composition of returns adjusted by exchange rates capturing a point of view of global investors. The Czech Koruna exchange rate effects in a conjunction with equity returns are identified as a possible risk aversion instrument. Granger causality concept is added in order to find a development of data flow directions in a perspective of the Czech market. Results show that unidirectional influence of foreign markets affecting Czech market occurs in data series. |
| Keywords: | stock market integration, multivariate analysis, dynamic modelling, conditional correlation |
| JEL: | C32 E44 G14 G15 F36 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:fau:wpaper:wp2010_09&r=ifn |
| By: | Shawkat M.Hammoudeh; Yuan Yuan; Michael McAleer (University of Canterbury) |
| Abstract: | This paper examines the inclusion of the dollar/euro exchange rate together with four important and highly traded commodities - aluminum, copper, gold and oil- in symmetric and asymmetric multivariate GARCH and DCC models. The inclusion of exchange rate increases the significant direct and indirect past shock and volatility effects on future volatility between the commodities in all the models. Model 2, which includes the business cycle industrial metal copper and not aluminum, displays more direct and indirect transmissions than does Model 3, which replaces the business cycle-sensitive copper with the highly energy-intensive aluminum. The asymmetric effects are the greatest in Model 3 because of the high interactions between oil and aluminum. Optimal portfolios should have more euro currency than commodities, and more copper and gold than oil. |
| Keywords: | MGARCH; shocks; volatility; transmission; asymmetries; hedging |
| JEL: | C51 E27 Q43 |
| Date: | 2010–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:cbt:econwp:10/33&r=ifn |
| By: | Sá, F.; Viani, F. |
| Abstract: | Reversals in capital inflows can have severe economic consequences. This paper develops a dynamic general equilibrium model to analyse the effect on interest rates, asset prices, investment, consumption, output, the exchange rate and the current account of a shift in portfolio preferences of foreign investors. The model has two countries and two asset classes (equities and bonds). It is characterized by imperfect substitutability between assets and allows for endogenous adjustment in interest rates and asset prices. Therefore, it accounts for capital gains arising from equity price movements, in addition to valuation effects caused by changes in the exchange rate. To illustrate the mechanics of the model, we calibrate it to analyse the conse- quences of an increase in the importance of Sovereign Wealth Funds (SWFs). Specifically, we ask what would happen if 'excess' reserves held by Emerging Markets were transferred from central banks to SWFs. We look separately at two diversification paths: one in which SWFs keep the same allocation across bonds and equities as central banks, but move away from dollar assets (path 1); and another in which they choose the same currency composition as central banks, but shift from US bonds to US equities (path 2). In path 1, the dollar depreciates and US net debt falls on impact and increases in the long run. In path 2, the dollar depreciates and US net debt increases in the long run. In both cases, there is a reduction in the 'exorbitant privilege', i.e., the excess return the US receives on its assets over what it pays on its liabilities. The model is applicable to other episodes in which foreign investors change the composition of their portfolios. |
| Keywords: | portfolio preferences, sudden stops, imperfect substitutability, global imbalances, sovereign wealth funds |
| JEL: | F32 |
| Date: | 2010–05–29 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camdae:1029&r=ifn |
| By: | Bernardo Maggi; Eleonora Cavallaro; Marcella Mulino (Univ. of Rome “La Sapienza”) |
| Abstract: | The paper presents an open-economy macrodynamical growth model with the aim of giving an endogenous characterisation to the process that leads a small country with a currency-board arrangement to accumulate dangerously high levels of external debt and become vulnerable to macroeconomic instability. The macrodynamics of the model results from the combination of the commitment to maintain the peg - that makes liquidity closely dependent on the dynamics of foreign reserves – and the non-linear real and financial interactions that drives the pro-cyclical behaviour of the economy. Within this context, the external finance ease during an economic upswing leads to debt-supported growth and financial fragility; the consequent deterioration of profitability expectations brings about a capital reversal that, in the absence of monetary stabilization tools, makes the currency arrangement unsustainable. A financial crisis may thus turn into a currency crisis. We run a continuous-time estimation of a non-linear differential equations system for Argentina during the years of the currency-board arrangement. We find that two steady-state solutions exist. The local stability and sensitivity analysis show that both equilibria are unstable and that the qualitative nature of the equilibria depends in particular on lenders’ responsiveness to the degree of leverage. On the contrary, when considering a different currency arrangement with an autonomous monetary policy, the system becomes stable. |
| Keywords: | Currency Board, Financial Crisis, Monetary policy, Continuous Time Econometrics, Stability, Sensitivity |
| JEL: | C51 C62 F34 E52 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:des:wpaper:18&r=ifn |
| By: | Luis M. Viceira (Harvard Business School); Ricardo Gimeno (Banco de España) |
| Abstract: | In this article, we explore the demand for the euro for risk management purposes, and the evidence of stock market integration in the euro area. We define a reserve currency as one that investors demand either because it helps them hedge real interest risk and inflation risk, or because it helps them reduce the volatility of their portfolio of stocks and bonds because its return is negatively correlated with the returns on those assets. This article re-examines the role of the euro as a reserve currency in the sense of Campbell, Viceira and White (2003), updating their evidence, and reviews the evidence of Campbell, Serfaty-de Medeiros and Viceira (2010) in detail. Consistent with the intuition that an integrated capital market is one in which there is a common discount factor pricing securities, we also investigate whether stocks in the euro area have moved from a regime in which national stock markets were priced with discount rates that were predominantly country specific, to a regime in which national stock markets are predominantly priced by a euro area-wide common discount rate. We adopt the beta decomposition approach of Campbell and Vuolteenaho (2004) and Campbell, Polk and Vuolteenaho (2010) to test for capital market integration, and find robust evidence of increased capital market integration in the euro zone, and consequently improved risk sharing among euro zone economies. |
| Keywords: | Euro, Reserve Currency, Currency hedging, Market Integration, Beta decomposition |
| JEL: | G12 G15 F31 F15 E42 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:1014&r=ifn |
| By: | Nicola Cetorelli; Linda S. Goldberg |
| Abstract: | Global banks played a significant role in transmitting the 2007-09 financial crisis to emerging-market economies. We examine adverse liquidity shocks on main developed-country banking systems and their relationships to emerging markets across Europe, Asia, and Latin America, isolating loan supply from loan demand effects. Loan supply in emerging markets across Europe, Asia, and Latin America was affected significantly through three separate channels: 1) a contraction in direct, cross-border lending by foreign banks; 2) a contraction in local lending by foreign banks' affiliates in emerging markets; and 3) a contraction in loan supply by domestic banks, resulting from the funding shock to their balance sheets induced by the decline in interbank, cross-border lending. Policy interventions, such as the Vienna Initiative introduced in Europe, influenced the lending-channel effects on emerging markets of shocks to head-office balance sheets. |
| Keywords: | Capital market ; Emerging markets ; International finance ; International liquidity ; Banks and banking, International ; Banks and banking, Foreign ; Financial crises ; Loans, Foreign |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:446&r=ifn |
| By: | Stephen Cecchetti; Ingo Fender; Kostas Patrick McGuire |
| Abstract: | Global risk maps are unified databases that provide risk exposure data to supervisors and the broader financial market community worldwide. We think of them as giant matrices that track the bilateral (firm-level) exposures of banks, non-bank financial institutions and other relevant market participants. While useful in principle, these giant matrices are unlikely to materialise outside the narrow and targeted efforts currently being pursued in the supervisory domain. This reflects the well known trade-offs between the macro and micro dimensions of data collection and dissemination. It is possible, however, to adapt existing statistical reporting frameworks in ways that would facilitate an analysis of exposures and build-ups of risk over time at the aggregate (sectoral) level. To do so would move us significantly in the direction of constructing the ideal global risk map. It would also help us sidestep the complex legal challenges surrounding the sharing or dissemination of firm-level data, and it would support a two-step approach to systemic risk monitoring. That is, the alarms sounded by the aggregate data would yield the critical pieces of information to inform targeted analysis of more detailed data at the firm- or market-level. |
| Keywords: | risk map, international banking, financial crises, yen carry trade, funding risk |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:309&r=ifn |
| By: | Maurice J. Roche (Department of Economics, Ryerson University, Toronto, Canada); Michael J. Moore (School of Management and Economics, The Queen's University of Belfast, Belfast, Northern Ireland) |
| Abstract: | We present a model that simultaneously explains why uncovered interest parity holds for some pairs of countries and not for others. The flexible-price two-country monetary model is extended to include a consumption externality with habit persistence. Habit persistence is modeled using Campbell Cochrane preferences with ‘deep’ habits along the lines of the work of Ravn, Schmitt-Grohe and Uribe. By deep habits, we mean habits defined over goods rather than countries. The negative slope in the Fama regression arises when monetary instability is low and the precautionary savings motive dominates the intertemporal substitution motive. When monetary instability is high, the Fama slope is positive in line with uncovered interest parity. The model is simulated using the artificial economy methodology for 34 currencies against the US dollar. We conclude that, given the predominance of precautionary savings, the degree of monetary instability explains whether or not uncovered interest parity holds. |
| Keywords: | Monetary instability; Uncovered interest parity; Forward biasedness puzzle; Carry trade; Habit persistence |
| JEL: | F31 F41 G12 |
| Date: | 2010–05 |
| URL: | http://d.repec.org/n?u=RePEc:rye:wpaper:wp015&r=ifn |
| By: | Khan, Salman |
| Abstract: | In this paper we investigate the relationship between the crude oil and the stock market in terms of returns and volatility-spillover for the BRIC countries by using cointegration and the VECM-MGARCH technique. The results reveal that the oil and the market returns are cointegrated in all the markets. The results from VECM indicate stable, bidirectional, long-run relationship between oil prices and market returns while short-run linkages were found to be absent in all the cases except Russia where it significantly affects the BRENT prices. In terms of shock transmission and volatility spillover, the relationship is significant and bidirectional in all the cases. The analyses conclude that BRIC countries stock markets are highly integrated with the oil market. |
| Keywords: | Multivariate GARCH; Cointegration; Oil Price; Stock markets; VECM |
| JEL: | O16 C22 Q4 |
| Date: | 2010–04–30 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:22978&r=ifn |
| By: | Beltratti, Andrea (Bocconi University); Stulz, Rene M. (Ohio State University and ECGI) |
| Abstract: | Though overall bank performance from July 2007 to December 2008 was the worst since the Great Depression, there is significant variation in the cross-section of stock returns of large banks across the world during that period. We use this variation to evaluate the importance of factors that have been put forth as having contributed to the poor performance of banks during the credit crisis. Our evidence is inconsistent with the argument that poor governance of banks made the crisis worse, but it is supportive of theories that emphasize the fragility of banks financed with short-run capital market funding. Strikingly, differences in banking regulations across countries are generally uncorrelated with the performance of banks during the crisis, except that banks in countries with more restrictions on banking activities performed better, and are uncorrelated with observable risk measures of banks before the crisis. The better-performing banks had less leverage and lower returns in 2006 than the worst-performing banks. |
| Date: | 2010–03 |
| URL: | http://d.repec.org/n?u=RePEc:ecl:ohidic:2010-5&r=ifn |