nep-ifn New Economics Papers
on International Finance
Issue of 2024‒01‒08
sixteen papers chosen by
Jiachen Zhan, University of California,Irvine

  1. Dollar Shortages, CIP Deviations and the Safe Haven Role of the Dollar By Philippe Bacchetta; J. Scott Davis; Eric Van Wincoop
  2. Dollar Trinity and the Global Financial Cycle By Georgios Georgiadis; Gernot J. Müller; Ben Schumann
  3. Corporate Debt Structure with Home and International Currency Bias By Matteo Maggiori; Brent Neiman; Jesse Schreger
  4. The High Frequency Effects of Dollar Swap Lines By Rohan Kekre; Moritz Lenel
  5. Global Risk and the Dollar By Georgios Georgiadis; Gernot J. Müller; Ben Schumann
  6. Optimal Exchange Rate Policy By Oleg Itskhoki; Dmitry Mukhin
  7. Broken Relationships: De-Risking by Correspondent Banks and International Trade By Lea Borchert; Ralph De Haas; Karolin Kirschenmann; Alison Schultz
  8. Pasinetti, Debt Sustainability and (Green) Structural Change at the Time of Global Finance: An Emerging and Developing Countries’ Perspective By Botta, Alberto; Spinola, Danilo; Yajima, Giuliano; Porcile, Gabriel
  9. Income Inequality and External Wealth of Nations By Montes Rojas Gabriel; Carrera Jorge; Panigo Demián; Solla Mariquena; Toledo Fernando
  10. Natural and Neutral Real Interest Rates: Past and Future By Maurice Obstfeld
  11. Low Risk Sharing with Many Assets By Emile A. Marin; Sanjay R. Singh
  12. Does Trade Uncertainty Affect Bank Lending? By Ricardo Correa; Julian di Giovanni; Linda S. Goldberg; Camelia Minoiu
  13. Patterns of Cross-Border Venture Capital Flows in Europe By Pierfederico Asdrubali
  14. The evaluation of the effects of ESG scores on financial markets By Michele Costa
  15. Who’s Afraid of Foreign Investment Screening? By Justine Guillochon; Julien Le Roux
  16. Privatization in an International Mixed Oligopoly: the Role of Product Differentiation under Price Competition By Marco Catola; Alessandra Chirco; Marcella Scrimitore

  1. By: Philippe Bacchetta; J. Scott Davis; Eric Van Wincoop
    Abstract: Since 2007, an increase in risk or risk aversion has resulted in a U.S. dollar appreciation and greater deviations from covered interest parity (CIP). In contrast, prior to 2007, risk had no impact on the dollar, and CIP held. To explain these phenomena, we develop a two-country model featuring (i) market segmentation, (ii) limited CIP arbitrage (since 2007) and (iii) global dollar dominance. During periods of heightened global financial stress, dollar shortages in the offshore market emerge, leading to increased CIP deviations and a dollar appreciation. The appreciation occurs even in the absence of global dollar demand shocks. Central bank swap lines mitigate these effects.
    Keywords: dollar; CIP deviations; Central Bank Swap Lines
    JEL: E44 F31 G15
    Date: 2023–12–15
  2. By: Georgios Georgiadis; Gernot J. Müller; Ben Schumann
    Abstract: We develop a two-country business-cycle model of the US and the rest of the world with dollar dominance in trade invoicing, in cross-border credit, and in safe assets. The interplay between these elements—dollar trinity—rationalizes salient features of the Global Financial Cycle in the data: When its tide subsides, the dollar appreciates, financial conditions tighten, the world business cycle slows down, and emerging-market central banks face a trade-off between mitigating the recession and dampening price pressures. We find the dollar is no sideshow in this, but central for the transmission of the Global Financial Cycle to the world economy.
    Keywords: Dollar dominance, dominant currency paradigm, Bayesian proxy structural VAR model, convenience yield
    JEL: F31 F42 F44
    Date: 2023
  3. By: Matteo Maggiori; Brent Neiman; Jesse Schreger
    Abstract: We explore the consequences of global capital market segmentation by currency for the optimal currency composition of borrowing by firms. Global bond portfolios are driven by the currency of denomination of assets as investors prefer to lend in their home currency or the international currency, the US Dollar. Larger and more productive firms select into foreign currency issuance. International segmentation results in a quantity-dimension of the exorbitant privilege whereby US firms that only issue in the domestic currency benefit from being able to more easily borrow from global investors.
    JEL: F3 G15
    Date: 2023–11
  4. By: Rohan Kekre; Moritz Lenel
    Abstract: We study the effects of dollar swap lines using high frequency responses in asset prices around policy announcements. News about expanded dollar swap lines causes a reduction in liquidity premia, compression of deviations from covered interest parity (CIP), and depreciation of the dollar. Equity prices rise and the VIX falls, while the response of long-term government bond prices is mixed. The cross-section of high frequency responses implies that swap lines affect the dollar factor or the price of risk. Our findings are qualitatively consistent with models relating the supply of dollar liquidity to the broader economy.
    JEL: E44 F31 G15
    Date: 2023–11
  5. By: Georgios Georgiadis; Gernot J. Müller; Ben Schumann
    Abstract: The dollar is a safe-haven currency and appreciates when global risk goes up. We investigate the dollar’s role for the transmission of global risk to the world economy within a Bayesian proxy structural vectorautoregressive model. We identify global risk shocks using high-frequency asset-price surprises around narratively selected events. Global risk shocks appreciate the dollar, induce tighter global financial conditions and a synchronized contraction of global economic activity. We benchmark these effects against counterfactuals in which the dollar does not appreciate. In the absence of dollar appreciation, the contractionary impact of a global risk shock is much weaker, both in the rest of the world and the US. For the rest of the world, contractionary financial channels thus dominate expansionary expenditure switching when global risk rises and the dollar appreciates.
    Keywords: Dollar exchange rate, global risk shocks, international transmission, Bayesian proxy structural VAR
    JEL: F31 F42 F44
    Date: 2023
  6. By: Oleg Itskhoki; Dmitry Mukhin
    Abstract: We develop a general policy analysis framework for an open economy that features nominal rigidities and financial frictions giving rise to endogenous PPP and UIP deviations. The efficient allocation can be implemented with monetary policy closing the output gap and FX interventions eliminating UIP deviations. When the “natural” real exchange rate is stable, both goals can be achieved solely by monetary policy that fixes the exchange rate — an open-economy divine coincidence. More generally, optimal policy features a managed float/crawling peg complemented with FX forward guidance and macroprudential accumulation of FX reserves, in line with the “fear of floating” observed in the data. Capital controls are not necessary to achieve the frictionless allocation, but they facilitate the extraction of rents in the currency market. Constrained unilateral policies are not optimal from the global perspective, and international cooperation features a complementary use of FX interventions across countries.
    JEL: F30 F40 G10
    Date: 2023–12
  7. By: Lea Borchert; Ralph De Haas; Karolin Kirschenmann; Alison Schultz
    Abstract: We exploit proprietary information on severed correspondent banking relationships (due to the stricter enforcement of financial crime regulation) to assess how payment disruptions impede cross-border trade. Using firm-level export data from emerging Europe, we show that when local respondent banks lose access to correspondent banking services, their corporate borrowers start to export less. This trade decline occurs on both the extensive and intensive margins, and firms only partially substitute these foregone exports with higher domestic sales. As a result, total firm revenues and employment shrink. These findings highlight an often overlooked function of global banks: providing the payment infrastructure and trade finance that enables firms in less-developed countries to export to richer parts of the world.
    Keywords: Correspondent banking; trade finance; de-risking, global banks; international trade; anti-money laundering
    JEL: F14 F15 F36 G21 G28
    Date: 2023–12
  8. By: Botta, Alberto; Spinola, Danilo; Yajima, Giuliano; Porcile, Gabriel
    Abstract: This paper studies the relationship between financial integration, external debt sustainability, and fiscal policy space in emerging and developing (EDE) countries. We do so by applying Pasinetti’s “geometry of debt sustainability” to EDE countries and analysing how it is shaped by exposure to global financial cycles. Through the lenses of Pasinetti’s theoretical framework, we study whether global finance opens “windows of opportunities” or creates more constraints for EDE countries in offering fiscal support for structural changes, including green structural transformations. This analysis is crucial for tackling the pressing issue of the climate crisis. We suggest EDE countries may face a “gridlock”. Global finance and pressures to keep external debt sustainable make them struggle to maintain vital public investment and enact counter-cyclical fiscal actions. Lack of fiscal space in turn exacerbates technological backwardness, which feeds back in the form of more binding external constraints and tighter “surveillance” by international creditors. We support our theoretical analysis with an econometric study over a sample of 55 countries from 1980-2018. Capital controls and external macroprudential policy emerge as fundamental policies enabling EDE countries to adeptly manoeuvre through debt challenges without falling into the pitfalls of stagnation and enduring technological underdevelopment.
    Keywords: Financial globalisation; fiscal space; structural change
    Date: 2023–12–15
  9. By: Montes Rojas Gabriel; Carrera Jorge; Panigo Demián; Solla Mariquena; Toledo Fernando
    Abstract: We study the relationship between income inequality and external wealth using dynamic panel data models with annual observations of 88 emerging and developing economies for the period 1970-2020. We find evidence in favor of a significant and positive association between inequality indicators and net external wealth. This relationship is statistically significant for all income inequality measures and net external wealth variables. If the Top 1 of the richest individuals in a given country increments their share by 1 percentage point this will produce an average same-year increment in net foreign assets of 0.45% in terms of the country’s GDP. The long-run effect is more than double in magnitude (1.05% of GDP). For the Top 10, the long-run effect increases tenfold (11.6% of GDP). When disaggregated into foreign assets and liabilities, we find a heterogeneous behavior of the financial elites. These findings reveal that financialized elites have a greater propensity to accumulate external wealth than the rest of the population.
    JEL: O15 E21
    Date: 2023–11
  10. By: Maurice Obstfeld
    Abstract: This paper surveys the decline in real interest rates in advanced and emerging economies over the past several decades, linking that process to a range of global factors that have operated with different force in different periods. The paper argues that estimates of long-run equilibrium real rates (r̄) may not always furnish an accurate guide to the rate appropriate for short-term monetary policy (r*). It argues further that effective monetary should consider not only equilibrium in the market for domestic goods, but also the current account balance, financial conditions (including capital flows), and imperfect policy credibility. Equilibrium long-term real interest rates have risen recently according to market indicators. However, the main underlying factors that have pushed real interest rates down since the 1980s and 1990s – notably demographic shifts, lower productivity growth, corporate market power, and safe asset demand relative to supply – do not appear poised to reverse strongly enough to drive a big and durable rise in global real interest rates over the coming years. Low equilibrium interest rates may well continue periodically to bedevil monetary policy and financial stability.
    JEL: E43 E44 E52 F36 N10
    Date: 2023–12
  11. By: Emile A. Marin; Sanjay R. Singh
    Abstract: Classical contributions in international macroeconomics rely on goods-market mechanisms to reconcile the cyclicality of real exchange rates when financial markets are incomplete. However, cross-border trade in one domestic and one foreign-currency-denominated risk-free asset prohibits these mechanisms from breaking the pattern consistent with complete markets. In this paper, we characterize how goods markets drive exchange rate cyclicality, taking into account trade in risk-free and/or risky assets. We show that goods-market mechanisms come back into play, even when there is cross-border trade in two risk-free assets, as long as we allow for empirically plausible heterogeneity in the stochastic discount factors of domestic marginal investors.
    Keywords: risk sharing; incomplete markets; exchange rates
    JEL: E32 F31 F44 G15
    Date: 2023–11–30
  12. By: Ricardo Correa; Julian di Giovanni; Linda S. Goldberg; Camelia Minoiu
    Abstract: The recent era of global trade expansion is over. Faced with increased geopolitical risk, fragile foreign supply chains, and uncertainties in the international trade environment, firms are postponing entry into foreign markets and pulling back from foreign activities (IMF 2023). Besides its direct effects on real activity, the recent rise in trade uncertainty has potentially important implications for the financial sector. This post describes how the lending activities of U.S. banks were affected by the rise in trade uncertainty during the 2018-19 “trade war.” In particular, banks that were more exposed to trade uncertainty contracted lending to all of their domestic nonfinancial business borrowers, regardless of whether these borrowers were facing high or low uncertainty themselves. Furthermore, banks’ lending strategies exhibited the type of “wait-and-see” behavior usually found in corporate firms facing investment decisions under uncertainty, and the lending contraction was larger for those banks that were more financially constrained.
    Keywords: bank loans; trade finance; trade uncertainty
    JEL: F34 F42 G21
    Date: 2023–12–20
  13. By: Pierfederico Asdrubali
    Abstract: A well-functioning and efficient Venture Capital (VC) market is one of the key pillars to enhance European medium- and long-term economic growth, through the creation of new businesses and sustainable employment, the improvement of managerial practices and increased capital investments, which boost innovation, productivity and competitiveness. These conditions are enhanced in the presence of an integrated VC market, which improves capital allocation, generates economies of scale and spurs competition and diversification of financing sources.This paper analyses cross-border VC flows in Europe in the 2007-2020 period, highlighting the deep fragmentation of the European market, with each country featuring its own peculiarities and evident disparities, and Northern European countries, the UK, and Ireland witnessing significantly higher cross-border volumes than Eastern-European and Mediterranean countries. Overall, the analysis of cross-border investments in the industry confirms that they are still rather infrequent, mainly due to local bias, with the domestic component accounting on average for 64.0% of the total VC activity and cross-border investments within Europe accounting on average for only 23.1%. Using a Grubel-Lloyd index, we find that the highest values of two-way flows of venture capital are concentrated in the major financial centres, with a prominent role of the United Kingdom. Furthermore, theory-grounded gravity equations investigate the determinants of cross-border VC flows, exploring, inter alia, the role of different financial structures across countries. Besides GDP (or market capitalisation) and distance, the quality of institutions and especially the degree of global financial integration do play a role in shaping cross-border VC flows. The uneven development of the financial market within Europe ‒ with a market-based country cluster distinct from a bank-based country cluster ‒ appears to matter little for cross-border VC flows.
    JEL: C58 F36 G24
    Date: 2023–11
  14. By: Michele Costa
    Abstract: We aim to explore the interplay between ESG scores and assets characteristics, specifically focusing on volatility. We classify stocks on the basis of both high/low ESG and high/low ESG momentum and we evaluate ESG effects by measuring the distance between the 2 group distributions. The analysis of stocks within the STOXX Europe 600 Index from 2017 to 2022 suggests that companies with higher ESG tend to exhibit lower volatility. However, we haven’t observed a similar trend when examining ESG momentum. Furthermore, our findings enable us to highlight and compare the effects associated with the COVID pandemic and the conflict in Ukraine.
    JEL: G11 C40 Q56
    Date: 2023–12
  15. By: Justine Guillochon; Julien Le Roux
    Abstract: The Global Financial Crisis highlighted the need for policymakers to consider the stage of the financial cycle to better evaluate the cyclical position of the economy when designing monetary policy decisions. If financial variables are omitted from the estimations of the output gap, a common and unobserved indicator of the business cycle, important financial or external imbalances that may lead to future recessions may not be captured. This paper presents a suite of estimates of output gaps incorporating financial variables. The estimates are based both on small unobserved components models and a large unobserved components model that follows a production function approach. The results show that exploiting the information content of financial variables, which co-move strongly with the output cycle, can sometimes improve the real-time estimates of the output gap. However, these improvements are of a limited magnitude and very sensitive to the choice of the chosen financial variables.
    Keywords: Output Gap, Potential Output, Financial Cycle, Monetary Policy, Unobserved Components Model.
    JEL: C32 E32 E44 E47 E52
    Date: 2023
  16. By: Marco Catola; Alessandra Chirco; Marcella Scrimitore
    Abstract: By developing a linear model in a two-country framework of international price competition, we show how the degree of product differentiation and the cross-country distribution of private firms affect the strategic privatization choices made by governments concerned with their own country’s welfare. More particularly, the work points out that sufficiently low product differentiation may lead public ownership to be optimally chosen to restrict competition in the country with the larger number of firms, and privatization to be global welfare enhancing in this case.
    Keywords: Mixed oligopoly, price competition, strategic privatization, internationalmarkets
    JEL: F23 L13 L32
    Date: 2023–12–01

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