nep-ifn New Economics Papers
on International Finance
Issue of 2011‒01‒23
nine papers chosen by
Ajay Shah
National Institute of Public Finance and Policy

  1. A De Facto Asian-Currency Unit Bloc in East Asia: It Has Been There but We Did Not Look for It By Girardin, Eric
  2. Getting beyond carry trade: what makes a safe haven currency? By Maurizio Michael Habib; Livio Stracca
  3. To devalue or not to devalue? How East European countries responded to the outflow of capital in 1997-99 and in 2008-09 By Popov, Vladimir
  4. The Predictive Information Content of External Imbalances for Exchange Rate Returns: How Much Is It Worth? By Della Corte, P.; Sarno, L.; Sestieri, G.
  5. Pricing currency risk in the stock market: Empirical evidence from Finland and Sweden 1970-2009 By Jan Antell; Mika Vaihekoski
  6. Emerging Market Yield Spreads: Domestic, External Determinants, and Volatility Spillovers By Pierre L. Siklos
  7. Bigger Fish in Small Pond: The Interaction between Foreigners’ Trading and Emerging Stock Market Returns under the Microscope By Ülkü, Numan; Weber, Enzo
  8. Heterogeneity and the Structure of Exports and FDI: A cross-industry analysis of Japanese manufacturing By TANAKA Ayumu
  9. Money Supply Rules and Exchange Rate Dynamics By Juha Tervala

  1. By: Girardin, Eric (Asian Development Bank Institute)
    Abstract: Pegging in a coordinated way to a regional basket currency is considered by many as optimal for east-Asian countries. By contrast, according to existing empirical studies, these countries have most often relied on non-cooperative United States dollar or G3 pegs. We show for the first time that by the late 1990s, with some reversals, a majority of east-Asian countries had already moved, de facto, away from the dollar peg and started targeting a basket, including east-Asian currencies (an “Asian Currency Unit”). Common-shock or market-based interpretations of such moves are ruled out since we document that, with few exceptions, countries in the region have in reality stuck to fixed exchange rates. We obtain such results using a Markov-switching estimation benchmarked against Bai-Perron structural break tests for the synthesis model of Frankel and Wei (2007), which augments the inference about currency weights in a basket with the weight on exchange-market pressure. In order to measure the latter, the forward positions of central banks in the foreign exchange market are taken into account.
    Keywords: asian currency unit; east asian currencies; exchange rate regimes
    JEL: F31 F41
    Date: 2011–01–14
  2. By: Maurizio Michael Habib (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.); Livio Stracca (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: There is already a substantial literature documenting the fact that low yield currencies typically appreciate during times of global financial stress and behave as safe havens. The main objective of this paper is to find out what the fundamentals of safe haven currencies are. We analyse a large panel of 52 currencies in advanced and emerging countries over almost 25 years of data. We find that only a few factors are robustly associated to a safe haven status, most notably the net foreign asset position, an indicator of external vulnerability, and to a lesser extent the absolute size of the stock market, an indicator of market size and development. The interest rate spread against the US is significant only for advanced countries, whose currencies are subject to carry trade. More generally, we find that it is hard to predict what currencies would do when global risk aversion is high, as estimates are imprecise and often not stable or robust. This suggests caution in over-interpreting exchange rate movements during financial crises. JEL Classification: E44, F31, G15.
    Keywords: VIX, global risk aversion, safe haven currencies, carry trade, globalisation.
    Date: 2011–01
  3. By: Popov, Vladimir
    Abstract: If there is a negative terms of trade or financial shock leading to the deterioration in the balance of payments, there are two basic options for a country that has limited foreign exchange reserves. First, a country can maintain a fixed exchange rate (or even a currency board) and wait until the reduction of foreign exchange reserves leads to the reduction of money supply: this will drive domestic prices down and stimulate exports, raise interest rates and stimulate the inflow of capital, and finally will correct the balance of payments. Second, the country can allow the devaluation of national currency – flexible exchange rate will automatically bring the balance of payments back into the equilibrium. Because national prices are less flexible than exchange rates, the first type of adjustment is associated with the greater reduction of output. The empirical evidence on East European countries and other transition economies for 1998-99 period (outflow of capital after the 1997 Asian and 1998 Russian currency crises and slowdown of output growth rates) suggests that the second type of policy response (devaluation) was associated with smaller loss of output than the first type (monetary contraction). 2008-09 developments provide additional evidence for this hypothesis.
    Keywords: Devaluation; capital account shocks; fixed and flexible exchange rates; macroeconomic response to shocks
    JEL: F42 F32 F41 F31 F43
    Date: 2010
  4. By: Della Corte, P.; Sarno, L.; Sestieri, G.
    Abstract: This paper examines the exchange rate predictability stemming from the equilibrium model of international financial adjustment developed by Gourinchas and Rey (2007). Using predictive variables that measure cyclical external imbalances for country pairs, we assess the ability of this model to forecast out-of-sample four major US dollar exchange rates using various economic criteria of model evaluation. The analysis shows that the model provides economic value to a risk-averse investor, delivering substantial utility gains when switching from a portfolio strategy based on the random walk benchmark to one that conditions on cyclical external imbalances.
    Keywords: foreign exchange; predictability; global imbalances; fundamentals.
    JEL: F31 F37 G15
    Date: 2011
  5. By: Jan Antell (Hanken School of Economics, Department of Finance and Statistics); Mika Vaihekoski (Turku School of Economics (TSE) and Lappeenranta University of Technology (LUT))
    Abstract: We investigate the role of currency risk on stock markets in two interlinked Nordic countries exhibiting a gradual move from fixed to floating exchange rates. We apply the Ding and Engle (2001) covariance stationary specification in a multivariate GARCH-M setup to test a conditional international asset pricing model. Using a sample period from 1970 to 2009, we find that the currency risk is priced in both stock markets as well as the price to be lower after the flotation of the currencies. We also find the cross-country exchange rate shock from Finland to affect the price of currency risk in Sweden, but not vice versa. Finally, we discuss some of the potential issues in applying multivariate GARCH-M specifications in tests of asset pricing models.
    Keywords: conditional, international asset pricing model, currency risk, devaluation, multivariate GARCH-M, Finland, Sweden
    JEL: G12 G15
    Date: 2011–01
  6. By: Pierre L. Siklos (Wilfrid Laurier University and Viessmann European Research Centre, Waterloo, ON, Canada; The Rimini Centre for Economic Analysis (RCEA), Rimini, Italy)
    Abstract: This study examines the determinants of bond yield spreads for 22 emerging markets in the period 1998-2009. In addition to the usual EMBI index data from credit default swaps (CDS) are also used. Three sets of determinants are considered: domestic, external, and institutional factors. In addition, I consider the connection between volatility and bond yield spreads. Volatility, and central bank transparency, are two factors common to all countries examined whereas clear idiosyncrasies are found according to whether emerging markets are in Latin and South America, Europe, Asia or Africa. Most notably, the global financial financial crisis did not impact yield spreads in Asia which suggests that, in a sense, bond markets in that region were decoupled from those in other parts of the world.
    Keywords: emerging markets, yield spreads, volatility, transparency
    JEL: G15 C2 F34
    Date: 2011–01
  7. By: Ülkü, Numan; Weber, Enzo
    Abstract: This paper provides the first study of foreign investors’ trading in a sizeable European emerging stock market, using a combination of daily and monthly complete data collected at the destination. It also introduces the structural conditional correlation (SCC) methodology to identify the contemporaneous interaction between foreign flows and returns. We show that global emerging market returns are an additional driver of foreign flows after controlling for global developed market returns. Foreigners do negative (positive)-feedback-trade with respect to local returns at the monthly (daily) frequency. SCC methodology shows that the standard assumption in the literature that flows cause returns but not vice versa is not justified even at the daily frequency, making price impact estimates reported in previous literature questionable.
    Keywords: Foreign investors' trading in emerging stock markets; feedback trading; price impact; structural VAR; structural conditional correlation
    JEL: G15 C32
    Date: 2011–01–10
  8. By: TANAKA Ayumu
    Abstract: The fraction of exporters and multinational enterprises (MNEs) varies substantially across industries. We extend the firm heterogeneity model presented by Helpman et al. (2004) to derive testable predictions about the prevalence of these internationalized modes. The model indicates that intra-industry firm heterogeneity and R&D intensity play large roles in inter-industry variation of the fraction of internationalized firms. We investigate whether these factors as well as import tariffs affect the structure of exports and foreign direct investment (FDI) using Japanese industry-level data. We obtain results that are consistent with the model. First, industries with larger productivity dispersion have a larger fraction of MNEs and a larger fraction of the sum of exporters and MNEs. Second, MNEs are heavily concentrated in R&D-intensive industries. In addition, we reveal that industries with lower import tariffs have a larger fraction of exporters and MNEs.
    Date: 2011–01
  9. By: Juha Tervala
    Abstract: This paper examines the implications of monetary policy rules for exchange rate dynamics. I extend a standard New Open Economy Macroeconomics model with the introduction of a simple money supply rule, whereby central banks change their monetary policy if output diverges from potential output or if inflation diverges from the target inflation. A key result is that, in the case of permanent technology and monetary shocks, the nominal exchange rate does not follow a random walk; instead, the exchange rate undershoots its long-run value. An undershooting of the exchange rate derives from the active monetary policy that both countries conduct.
    Keywords: Monetary policy rules, open economy macroeconomics, exchange rate
    JEL: E5 F3 F4
    Date: 2010–12

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