|
on International Finance |
|
Issue of 2011‒03‒26
twelve papers chosen by Ajay Shah National Institute of Public Finance and Policy |
| By: | Khaled Guesmi; Duc Khuong Nguyen |
| Abstract: | In recent years, various emerging market regions have actively taken part in the movements of globalization and world market integration. However, the process of financial integration appears to vary over time and differs significantly across emerging market regions. This paper attempts to evaluate the time-varying integration of emerging markets from a regional perspective (Asia, Latin America, Middle East, and Southeast Europe) based on a conditional version of the International Capital Asset Pricing Model (ICAPM) with DCC-GARCH parameters that allows for dynamic changes in the degree of market integration, global market risk premium, regional exchange-rate risk premium, and local market risk premium. Overall, our findings reveal several interesting facts. First, the time-varying degree of integration of four emerging regions, satisfactorily explained by the regional level of trade openness and the term premium of US interest rates, has recently tended to increase, but these markets still remain substantially segmented from the world market. Second, the local market risk premium is found to explain more than 50% of the total risk premium for emerging market returns. Finally, we show that conditional correlations usually underestimate and overstate the measure of time-varying market integration. The empirical results of this study have some important implications for both global investors and policy makers with respect to dedicated portfolio investments in emerging markets and policy adjustments. |
| Keywords: | time-varying integration, emerging markets, ICAPM, risk premium, DCC-GARCH |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:drm:wpaper:2011-9&r=ifn |
| By: | Mundaca, Gabriela |
| Abstract: | Instead of just focusing on the effect of exchange rate levels (undervalued or overvalued exchange rates) on trade, this paper provides an analysis of the effects of exchange rate volatility levels on international trade. Intuitively, an increase in exchange rate volatility leads to uncertainty for agents participating in international trade, and such uncertainty might have a negative impact on international trade flows and participation, thereby reducing the advantages of world-wide specialization. This is especially crucial for countries where exchange rate derivatives markets are not yet well developed and the costs of hedging exchange rate risk are very high. The model here considers optimal decisions about participation in international trade under uncertainty about the exchange rate. The main conclusion is that a high level of exchange rate volatility can deter entrepreneurs from becoming exporters, even though exporting can be highly profitable. For those already participating in international trade, it is opposite: they may, optimally, choose not to leave the market even though staying in this market is highly unprofitable in the short run. |
| Keywords: | Trade Law,Debt Markets,Emerging Markets,Currencies and Exchange Rates,Markets and Market Access |
| Date: | 2011–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:wbk:wbrwps:5593&r=ifn |
| By: | Raddatz, Claudio |
| Abstract: | A long empirical literature has examined the idea that, in the absence of hedging mechanisms, currency risk should have an adverse effect on the export volumes of risk averse exporters. But there are no clear conclusions from this literature, and the current consensus seems to be that there is at most a weak negative effect of exchange rate volatility on aggregate trade flows. However, most of this literature examines the impact of exchange rate volatility on aggregate trade flows, implicitly assuming a uniform impact of this volatility on exporters across sectors. This paper explots the fact that, if exchange rate volatility is detrimental for trade, firms exporting goods that offer a natural hedge against exchange rate fluctuations -- i.e. those whose international price is negatively correlated with the nominal exchange rate of the country where they operate -- should be relatively benefited in environments of high exchange rate volatility, and capture a larger share of the country's export basket. This hypothesis is tested using detailed data on the composition of trade of 132 countries at 4-digit SITC level. The results show that the commodities that offer natural hedge capture a larger share of a country's export basket when the exchange rate is volatile, but there is only weak evidence that the availability of financial derivatives to hedge currency risk reduces the importance of a sector's natural hedge. |
| Keywords: | Emerging Markets,Debt Markets,Currencies and Exchange Rates,Economic Theory&Research,Economic Stabilization |
| Date: | 2011–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:wbk:wbrwps:5590&r=ifn |
| By: | Tim A. Kroencke (Centre for European Economic Research (ZEW)); Felix Schindler (Centre for European Economic Research (ZEW) and Steinbeis University Berlin); Andreas Schrimpf (Aarhus University and CREATES) |
| Abstract: | This paper provides a comprehensive analysis of portfolio choice with popular foreign exchange (FX) investment styles such as carry trades and strategies commonly known as FX momentum, and FX value. We investigate if diversification benefits can be achieved by style investing in FX markets relative to a benchmark allocation consisting of U.S. bonds, U.S. stocks, and international stocks. Overall, our results suggest that there are significant improvements in international portfolio diversification due to stylebased investing in FX markets (both in the statistical, and most importantly, in the economic sense). These results prevail for the most important investment styles after accounting for transaction costs due to re-balancing of currency positions, and also hold in out-of-sample tests. Moreover, these gains do not only apply to a mean-variance investor but we also show that international portfolios augmented by FX investment styles are superior in terms of second and third order stochastic dominance. Thus, even an investor who dislikes negatively skewed return distributions would prefer a portfolio augmented by FX investment styles compared to the benchmark. |
| Keywords: | International Diversification, Foreign Exchange Speculation and Hedging, Carry Trades, Stochastic Dominance, Investment Styles |
| JEL: | G11 G12 G15 |
| Date: | 2011–03–16 |
| URL: | http://d.repec.org/n?u=RePEc:aah:create:2011-10&r=ifn |
| By: | Didier, Tatiana |
| Abstract: | The preference among foreign institutional investors for large firms is widely documented. This paper deepens our understanding of international investments by providing evidence that foreign institutional investors with broader investment scopes prefer to invest in firms where they are less prone to information disadvantages than more specialized ones. In other words, there is heterogeneity in how information asymmetries affect investors'portfolio choices. Theoretically, a model with costly information and short-selling constraints shows that the broader the investor's mandate, the smaller the incentives to gather and process costly information. Empirically, an analysis of the mutual fund industry in the United States supports this hypothesis. |
| Keywords: | Mutual Funds,Debt Markets,Emerging Markets,Investment and Investment Climate,Microfinance |
| Date: | 2011–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:wbk:wbrwps:5586&r=ifn |
| By: | Eduardo Levy-Yeyati; Tomas Williams |
| Abstract: | Financial globalization (FG), defined as global linkages through cross-border financial flows, has become increasingly relevant for emerging markets (EM) as they integrate financially to the rest of the world. In this paper, we argue that, because of the way it is often measured, it has also led to the misperception that FG in EM has been growing in recent years. We characterize the evolution of FG in EM using alternative measures, and find that, in the 2000s, FG have grown only marginally and international portfolio diversification has been very limited, and declining over time. Next, we revisit the empirical literature on the implications of FG for local market deepening, international risk diversification, financial contagion, and financial dollarization, and we find them to be rather limited. Whereas FG has indeed fostered domestic market deepening in good times, it has yielded neither the dividends of consumption smoothing (in line with the limited portfolio diversification) nor the costs of amplifying global financial shocks. In turn, financial de-dollarization has largely reflected the undoing of financial offshoring and the valuation effects of real appreciation. |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:udt:wpbsdt:2011-01&r=ifn |
| By: | Kroencke, Tim-Alexander; Schindler, Felix |
| Abstract: | This paper analyzes diversification benefits from international securitized real estate in a mixed-asset context. We apply regression-based mean-variance efficiency tests, conditional on currency-unhedged and fully hedged portfolios to account for foreign exchange risk exposure. From the perspective of a US investor, it is shown that first, international diversification is superior to a US mixed-asset portfolio, second, adding international real estate to an already internationally diversified stock and bond portfolio results in a further significant improvement of the risk-return trade-off and, third, considering unhedged international assets could lead to biased asset allocation decisions not realizing the true diversification benefits from international assets. Our in-sample results are quite robust in out-of-sample analysis and when investment frictions like short selling constraints are introduced. -- |
| Keywords: | Diversification Benefits,International Mixed-Asset Portfolios,Currency Hedging,Spanning Tests,Short Selling Constraints |
| JEL: | G11 G12 G15 |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:zewdip:11012&r=ifn |
| By: | Bris, Arturo (IMD and ECGI); Koskinen, Yrjö (Boston University and CEPR); Nilsson, Mattias (University of Colorado at Boulder) |
| Abstract: | In this paper we study how the introduction of the euro has affected corporate financing in Europe. We use firm-level data from eleven euro area countries as well as from a control group of five other European countries spanning the years 1991–2006. We show that firms from euro area countries that previously had weak currencies have increased both their equity and their debt financing compared to the control group. We also show that results are stronger for firms that hail from less financially developed euro area countries, and that large firms from industries that are dependent on external financing have increased their debt financing more. These results support the hypothesis that improved access to capital markets in the euro area has enabled increased external financing, especially debt financing |
| Keywords: | euro; external financing; supply of capital; financial development; financial dependence; financial integration |
| JEL: | F33 F36 G32 |
| Date: | 2011–03–15 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:bofrdp:2011_006&r=ifn |
| By: | Holger Görg; Philipp Labonte |
| Abstract: | This paper looks empirically at the implications that protectionist measures implemented during the current crisis may have had for a country’s ability to attract foreign direct investment. The research utilizes data on such measures that is available from Global Trade Alert, combined with bilateral FDI data between OECD countries and a large number of partner countries for 2006 to 2009. This allows us to examine the short run effect that protectionist measures may have had on bilateral FDI flows. The verdict from this analysis is clear: a country that implements new protectionist measures may expect that this may result in lower foreign direct investment inflows into the economy. The point estimates from our preferred specifications suggest that, depending on the empirical model, the implementation of a trade protection measure is associated with about 40 to 80 percent lower FDI inflows. Trade protection does not appear to have any implications for the country’s FDI outflows, however. The negative effect on FDI inflows does not appear to be due to direct investment measures but rather to actions related to intellectual property rights protection and other more trade related measures |
| Keywords: | FDI, protection, financial crisis |
| JEL: | F23 F13 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:kie:kieliw:1687&r=ifn |
| By: | Carlos León; Daniel vela |
| Abstract: | Despite foreign reserves’ strategic asset allocation relies mainly on Modern Portfolio Theory (MPT), the unique characteristics of central banks obliges them to articulate and reconcile typical optimization procedures with reserves’ management objectives such as providing confidence regarding the ability to meet the country’s external commitments. Moreover, further involvedness come from broad economic factors as diverse as the openness of capital and current accounts, external debt’s maturity and currency composition, and exchange rate regime. Therefore, in order to alleviate the divergence from theory and practice regarding foreign reserves’ strategic asset allocation, this paper describes the methodologies and procedures developed and employed by the Foreign Reserves Department of Banco de la República. The mainstay of the paper is a long-term-dependence-adjusted and non-loss-constrained version of the Black-Litterman model for obtaining the efficient frontier from a set of investments complying with safety, liquidity and return criteria, where the choice of the portfolio which maximizes utility makes use of an estimation of the Board of Directors’ risk aversion. Results exhibit the effects of the unique nature of foreign reserves management for emerging markets. Typical features of foreign reserves management by central banks, such as non-loss restrictions due to capital preservation objectives, result in increased complexity in the optimization process and in asset allocations significantly distant from standard MPT’s optimality. |
| Date: | 2011–03–16 |
| URL: | http://d.repec.org/n?u=RePEc:col:000094:008186&r=ifn |
| By: | Sandrine Levasseur (Observatoire Français des Conjonctures Économiques and SKEMA Business School) |
| Abstract: | The main goal of this paper is to assess empirically to which extent the volatility of production is due to activities of firms under foreign ownership. Following Bergin et al. (2009) and Levasseur (2010), we postulate that multinational firms can use their contractors and their sites of production located abroad to “export” some of their domestic fluctuations, thus exacerbating further the business cycles of the hosting economy. Using a sample of twelve manufacturing sectors in eight EU countries and a data panel estimation, we find that the higher the share of firms under foreign ownership in a given sector of a country, the higher the volatility of production in that sector of that country, thus confirming the aforementioned assumption. Moreover, our estimates show how important to deal with sector-specific volatility, a result we attribute to idiosyncratic shocks arising at the sector level from both demand and supply sides. Our findings are robust to various ways of extracting cycles and to different time spans for measuring volatility. |
| Keywords: | Offshoring, European integration, sector analysis, business cycles volatility, data panel estimation. |
| JEL: | F21 F23 F4 L60 C30 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:fce:doctra:1101&r=ifn |
| By: | Francesca Viani |
| Abstract: | Whether financial market integration raised global insurance is a crucial, still open issue. All empirical methods to measure cross-border risk-sharing are based on the implicit assumption that international prices do not fluctuate in response to business cycle shocks. This paper shows that these methods can be completely misleading in the presence of large fluctuations in international prices as those observed in the data. I then propose a new empirical method that is immune from this issue. The risk-sharing inefficiency between two countries is measured by the wedge between their Stochastic Discount Factors (SDFs). This measure is a proxy for the welfare losses created by imperfect insurance. Welfare losses can be attributed either to the strength of uninsurable shocks (the extent of risk to be pooled) or to the degree of insurance against different sources of risk. The method is applied to study the evolution of risk-sharing between the US and OECD countries, assuming either constant or time-varying risk-aversion. The degree of insurance is found to have improved over time only for some countries and only if SDFs are estimated assuming time-varying risk-aversion. The results are also informative on the implications of different macro models for international risk. When confronted with the data, standard open-macro models (featuring constant risk-aversion) imply that nominal exchange rate fluctuations do not contain wealth divergences across countries, but rather represent an important source of risk. Time-varying risk-aversion instead implies that limiting welfare losses from imperfect risk-sharing requires reducing the volatility of macro fundamentals. |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:eui:euiwps:eco2011/10&r=ifn |