nep-ifn New Economics Papers
on International Finance
Issue of 2011‒08‒09
twelve papers chosen by
Ajay Shah
National Institute of Public Finance and Policy

  1. Global Asset Pricing By Karen K. Lewis
  2. Sailing through this Storm? Capital Flows in Asia during the Crisis By Cˆmdric TILLE
  3. Stories of the Twentieth Century for the Twenty-First By Pierre-Olivier Gourinchas; Maurice Obstfeld
  4. Properties of Foreign Exchange Risk Premiums By Sarno, Lucio; Schneider, Paul; Wagner, Christian
  5. Dollar illiquidity and central bank swap arrangements during the global financial crisis By Andrew K. Rose; Mark M. Spiegel
  6. Enter the Dragon: Interactions between Chinese, US and Asia-Pacific Equity Markets, 1995-2010 By Richard C. K. Burdekin; Pierre L. Siklos
  7. Capital flows: Catalyst or Hindrance to economic takeoffs? By Joshua Aizenman; Vladyslav Sushko
  8. Asymmetric Price Impacts of Order Flow on Exchange Rate Dynamics By Viet Hoang Nguyen; Yongcheol Shin
  9. Offshoring and company characteristics: some evidence from the analysis of Spanish firm data By Angels Pelegrín; Catalina Bolancé
  10. Finding lost capital: an estimate of undeclared assets held abroad by Italians By Valeria Pellegrini; Enrico Tosti
  11. Home bias in interbank lending and banks’ resolution regimes By Michele Manna
  12. What's Next for the Dollar? By Martin S. Feldstein

  1. By: Karen K. Lewis
    Abstract: Financial markets have become increasingly global in recent decades, yet the pricing of internationally traded assets continues to depend strongly upon local risk factors, leading to several observations that are difficult to explain with standard frameworks. Equity returns depend upon both domestic and global risk factors. Further, local investors tend to overweight their asset portfolios in local equity. The stock prices of firms that begin to trade across borders increase in response to this information. Foreign exchange markets also display anomalous relationships. The forward rate predicts the wrong sign of future movements in the exchange rate, implying that traders can make profits by borrowing in lower interest rate currencies and investing in higher interest rate currencies. Furthermore, the sign of the foreign exchange premium changes over time, a fact difficult to reconcile with consumption variability. In this review, I describe the implications of the current body of research for addressing these and other global asset pricing challenges.
    JEL: G11 G12 G13 G14 G15
    Date: 2011–07
  2. By: Cˆmdric TILLE (Graduate Institute of International and Development Studies and Centre for Economic Policy Research and Hong Kong Institute for Monetary Research)
    Abstract: The current crisis has led to an unprecedented collapse in international capital flows, with substantial heterogeneity across regions. Asian economies were relatively unaffected, despite having been the center of the storm in the crisis of the late 1990s. The contraction in capital flows for Asian countries was limited to the most acute phase of the crisis following the collapse of Lehman Brothers, after which capital flows rebounded. We find that the stronger performance of Asia primarily reflects its more limited reliance on international banking compared to Europe and the United States. We find little evidence that the drivers of capital flows had a differentiated impact in Asia. Finally, we show that while higher initial levels of foreign reserves did not insulate countries from a turnaround in private capital flows, a larger use of reserves at the height of the crisis limited the contraction in gross private outflows.
    Keywords: International Capital Flows, Banking Integration, Crisis
    Date: 2011–07
  3. By: Pierre-Olivier Gourinchas; Maurice Obstfeld
    Abstract: A key precursor of twentieth-century financial crises in emerging and advanced economies alike was the rapid buildup of leverage. Those emerging economies that avoided leverage booms during the 2000s also were most likely to avoid the worst effects of the twenty-first century's first global crisis. A discrete-choice panel analysis using 1973-2010 data suggests that domestic credit expansion and real currency appreciation have been the most robust and significant predictors of financial crises, regardless of whether a country is emerging or advanced. For emerging economies, however, higher foreign exchange reserves predict a sharply reduced probability of a subsequent crisis.
    JEL: E32 E51 F32 F34 G15 G21
    Date: 2011–07
  4. By: Sarno, Lucio; Schneider, Paul; Wagner, Christian
    Abstract: We study the properties of foreign exchange risk premiums that can explain the forward bias puzzle, defined as the tendency of high-interest rate currencies to appreciate rather than depreciate. These risk premiums arise endogenously from the no-arbitrage condition relating the term structure of interest rates and exchange rates. Estimating affine (multi-currency) term structure models reveals a noticeable tradeoff between matching depreciation rates and accuracy in pricing bonds. Risk premiums implied by our global affine model generate unbiased predictions for currency excess returns and are closely related to global risk aversion, the business cycle, and traditional exchange rate fundamentals.
    Keywords: exchange rates; forward bias; predictability; term structure
    JEL: E43 F31 G10
    Date: 2011–08
  5. By: Andrew K. Rose; Mark M. Spiegel
    Abstract: While the global financial crisis was centered in the United States, it led to a surprising appreciation in the dollar, suggesting global dollar illiquidity. In response, the Federal Reserve partnered with other central banks to inject dollars into the international financial system. Empirical studies of the success of these efforts have yielded mixed results, in part because their timing is likely to be endogenous. In this paper, we examine the cross-sectional impact of these interventions. Theory consistent with dollar appreciation in the crisis suggests that their impact should be greater for countries that have greater exposure to the United States through trade and financial channels, less transparent holdings of dollar assets, and greater illiquidity difficulties. We examine these predictions for observed cross-sectional changes in CDS spreads, using a new proxy for innovations in perceived changes in sovereign risk based upon Google-search data. We find robust evidence that auctions of dollar assets by foreign central banks disproportionately benefited countries that were more exposed to the United States through either trade linkages or asset exposure. We obtain weaker results for differences in asset transparency or illiquidity. However, several of the important announcements concerning the international swap programs disproportionately benefited countries exhibiting greater asset opaqueness.
    Keywords: Global financial crisis ; Liquidity (Economics) ; Dollar
    Date: 2011
  6. By: Richard C. K. Burdekin (Claremont McKenna College); Pierre L. Siklos (Wilfrid Laurier University and Hong Kong Institute for Monetary Research)
    Abstract: This paper applies a variety of short-run and long-run time series techniques to data on a broad group of Asia-Pacific stock markets and the United States extending to 2010. Our empirical work confirms the importance of crises in affecting the persistence of equity returns in the Asia-Pacific region and offers some support for contagion effects. Post-Asian financial crisis quantile regressions yield substantial evidence of long-run linkages between the Shanghai market, the US market and many regional exchanges. Cointegration is particularly prevalent at the higher end of the distribution. Our results suggest that the enormous growth of the Shanghai market in the new millennium has been accompanied a meaningful level of integration with other regional and world markets in spite of ongoing capital controls.
    Keywords: Stock Returns, Convergence, Crises, Asia-Pacific, China
    JEL: G15
    Date: 2011–07
  7. By: Joshua Aizenman; Vladyslav Sushko
    Abstract: This paper applies a probit estimation to assess the relationship between economic takeoffs during 1950-2000 and inflows of portfolio debt, portfolio equity, and FDI, controlling for country’s stock of short-term external debt and commodity terms of trade. Average level of FDI inflows is associated with a 23 percent higher takeoff probability relative to a zero FDI inflow benchmark, and this effect is highest for the Latin America subsample, with a 65 rise in takeoff probability. Higher stock of short term external debt has been associated with a substantial negative effect on the probability of a takeoff, and the effect of the short terms debt overhang is largest for Latin American countries. Yet, virtually all the takeoffs were associated with a rise in portfolio debt inflows. At the sample mean, inflow of portfolio debt is associated with approximately 25 percent higher probability of a takeoff. In contrast, a one standard deviation increase in equity outflows (inflows) is associated with a 47 percent (17 percent) decline in the probability of a takeoff. A one standard deviation improvement in commodity terms of trade is associated with 28 percent higher takeoff probability.
    JEL: F15 F21 F36 F43
    Date: 2011–07
  8. By: Viet Hoang Nguyen (Melbourne Institute of Applied Economic and Social Research, The University of Melbourne); Yongcheol Shin (Leeds University Business School, The University of Leeds)
    Abstract: We generalize the portfolio shifts model advanced by Evans and Lyons (2002a; b), and develop the dynamic asymmetric portfolio shifts (DAPS) model by explicitly allowing for possible market under- and overreactions and for asymmetric pricing impacts of order flows. Using the Reuters D2000-1 daily trading data for eight currency markets over a four-month period from 1 May to 31 August 1996, we find strong evidence of a nonlinear cointegrating relationship between exchange rates and (cumulative) order flows: The price impact of negative order flows (selling pressure) is overwhelmingly stronger than that of the positive ones (buying pressure). Through the dynamic multiplier analysis, we find two typical patterns of the price discovery process. The markets following overreactions tend to display a delayed overshooting and a volatile but faster adjustment towards equilibrium whereas the markets following underreactions are generally characterized by a gradual but persistent adjustment. In our model, these heterogeneous adjustment patterns reflect different liquidity provisions associated with different market conditions following under- and overreactions. In addition, the larger is the mispricing, the faster is the overall adjustment speed, a finding consistent with Abreu and Brunnermeier (2002) and Cai et al. (2011). We also find that underreactions are followed mostly by positive feedback trading while overreactions are characterized by delayed overshooting in the short run but corrected by negative feedback trading at longer horizons, the finding is consistent with Barberis et al. (1998) who show that positive short-run autocorrelations (momentum) signal underreaction while negative long-run autocorrelations (reversal) signal overreaction.
    Keywords: Exchange rate, order flow, under- and overreaction, asymmetric pricing impacts, asymmetric cointegrating relationship and dynamic multipliers
    JEL: C22 F31 G15
    Date: 2011–06
  9. By: Angels Pelegrín (Universitat de Barcelona & IEB); Catalina Bolancé (University of Barcelona & RFA-IREA)
    Abstract: This article investigates firm characteristics associated with the probability of relocating activities in a foreign country. Using manufacturing firms’ micro data for the 1999-2005 period, we find evidence that cost-cutting objectives are the main determinants for offshoring production. The analysis reveals that firms that are larger and have higher productivity, more research and development activity and greater human capital intensity are more likely to relocate activity abroad. Thus, ‘the best’ firms self-select to offshoring activities. We note the special prominence of foreign firms among those that engage in offshoring. Our results show that self-selection of ‘the best’ firms are much more significant in foreign firms.
    Keywords: Offshoring determinants, best firms, firm characteristics, foreign firms
    JEL: F21 F23
    Date: 2011
  10. By: Valeria Pellegrini (Banca d'Italia); Enrico Tosti (Banca d'Italia)
    Abstract: The substantial amount of undeclared foreign assets reported by disclosure schemes and analyses of international balance of payments statistics suggest that foreign assets held by Italians, as is the case in other countries, are greatly underestimated, in particular in the sector of portfolio investments. The aim of this work is to test this hypothesis and to estimate its magnitude. The approach is based on the comparison of mirror statistics on portfolio assets and liabilities; we have mainly used data coming from the Coordinated Portfolio Investment Survey (CPIS) conducted by the IMF, with further information from several international databases. For the years from 2001 to 2008 the discrepancy is estimated globally to be equal to 7.3% of world GDP on average. Different criteria have been adopted to distribute such under-reporting among investor countries and accordingly to estimate the share to attribute to Italy, which may plausibly range from €124 billion to €194 billion at the end of 2008 (from 7.9% to 12.4% of Italian GDP).
    Keywords: international investment position, portfolio securities, under-reporting
    JEL: F32 F21
    Date: 2011–07
  11. By: Michele Manna (Bank of Italy)
    Abstract: In recent years, banks have become increasingly aware of the credit risk borne in lending in the interbank market and they select their counterparties accordingly. They may also fear that if they come across a bad borrower, rescue plans will be skewed towards domestic creditors; moreover, lenders may prefer to defend their rights in their own regulatory and legal jurisdiction. Using 2004-09 data, this paper argues that these elements, the “resolution edge” of the domestic creditor, contributed to the increase in the home bias of interbank lending by euro-area banks from mid-2007 on, while a more consistent downward pattern emerges in the home bias of banks from five non-euro-area countries (including the US and the UK). The intuition is that when the crisis broke out, euro-area banks reckoned that within-the-area cross-border interbank loans carried a distinct risk compared with domestic loans. By contrast, a large Swiss bank, for example, did not need to wait until 2007 to gauge that its business in New York was a very different matter from a deal in Zürich.
    Keywords: home bias, interbank market, euro area, banks resolution procedures
    JEL: C33 G11 G15 G21 K20
    Date: 2011–07
  12. By: Martin S. Feldstein
    Abstract: The real trade weighted value of the dollar fell 11 percent against the Federal Reserve Bank’s index of major currencies during the 12 months through May 2011 and 31 percent during the past ten years. Four strong market forces are likely to cause further declines over the next several years: a portfolio rebalancing by major international investors who regard their portfolios as overweight dollars, the large US current account deficit, a Chinese policy to raise consumption, and interest rate differences that make dollar investments less attractive. A declining dollar could have a powerful positive effect on the short-run performance of the American economy by raising exports (now more than $1.3 trillion) and inducing American consumers to shift from imports to American made products and services. Without a boost to demand from an increase in net exports, the U.S. recovery is likely to remain weak and could run out of steam. There are of course also negative effects of a falling dollar: reducing the real value of any given level of personal incomes by raising the cost to households of the imported products that they consume and creating inflationary pressures as import prices rise.
    JEL: E3 F0 F31 F4
    Date: 2011–07

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