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on Open Economy Macroeconomics |
| By: | de Castro, Luciano; Frischtak, Claudio; Rodrigues, Arthur |
| Abstract: | Most developing economies rely on foreign capital to finance their infrastructure needs. These projects are usually structured as long-term (25–35 years) franchises that pay in local currency. If investors evaluate their returns in terms of foreign currency, exchange rate volatility introduces risk that may reduce the level of investment below what would be socially optimal. In this article, we propose a mechanism with very general features that hedges exchange rate fluctuation by adjusting the concession period. Such mechanism does not imply additional costs to the government and could be offered as a zero-cost option to lenders and investors exposed to currency fluctuations. We illustrate the general mechanism with three alternative specifications and use data from a 25-year highway franchise to simulate how they would play out in eight different emerging economies that exhibit diverse exchange rate trajectories. Results show relatively small length adjustments, and suggest the mechanism offers a powerful policy tool to cost-effectively attract vital foreign infrastructure investment for developing countries. |
| Keywords: | bidding for public projects; concession periods; exchange rate risk; government protection; infrastructure projects; insurance for exchange rate risk; investors risk aversion |
| JEL: | H40 F30 H80 |
| Date: | 2025–01–07 |
| URL: | https://d.repec.org/n?u=RePEc:ehl:lserod:126881 |
| By: | Larrahondo, Cristhian; Chávez, Augusto; Giles Álvarez, Laura; Andrian, Leandro Gaston |
| Abstract: | This paper calculates the exchange rate pass through (ERPT) with time constant and time varying coefficients for Colombia between 2006 and 2023. It then estimates the ERPT during four specific depreciation events during the period of analysis: the 2008 financial crisis, the 2014-2016 fall in international fuel prices, the COVID-19 pandemic and the post-COVID recovery. A Bayesian Vector Autoregressive model with exogenous variables (BVARX) model with time constant and time varying coefficients is used for the exercise. The results for time constant coefficients show that a 1 percentage point (p.p.) increase in the depreciation of the exchange rate leads to an increase in imported, producer and consumer inflation of 0.42 p.p., 0.15p.p., and 0.01 p.p. respectively in the first month of the shock. Time varying coefficient results suggest that the nature and the size of the shock result in a heterogeneous ERPT and monetary policy response. Moreover, higher ERPT in imported inflation and producer inflation does not seem translate into higher ERPT in consumer inflation. Further studies could look at: First, the nature of the ERPT on different types of inflation and why this is heterogeneous in a time varying analysis. Second, how the combined effect of different factors in the Colombian economy led to different monetary policy responses in each of the four episodes under analysis. |
| Keywords: | Passthrough;exchange rate;depreciation;Prices;Inflation |
| JEL: | C32 C51 C52 E31 E44 E50 E52 F31 F41 |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:idb:brikps:13959 |
| By: | Michal Kobielarz |
| Abstract: | The Eurozone bailouts consisted of credit lines with favorable lending conditions, equivalent to countries receiving implicit fiscal transfers. They are often interpreted as meant to prevent a default in the Eurozone or resolve the crisis. Contrary to this nar rative, Greece defaulted on its debt and went through a deep and prolonged recession, despite receiving fiscal assistance. This paper analyzes country bailouts in a monetary union within a framework where sovereign default and exit from the union are two separate decisions. The studied bailouts prevent an exit and, thus, do not exclude subsequent defaults. The model replicates the experience of Greece and captures the coexistence of bailouts, defaults, and recession. It also sheds new light on the moral hazard discussion of bailouts by showing no significant effects from exit-driven bailouts. |
| Date: | 2023–03 |
| URL: | https://d.repec.org/n?u=RePEc:ete:ceswps:746842 |
| By: | Peter Albrecht; Evžen Kočenda; Evžen Kocenda |
| Abstract: | Using novel methods, we comprehensively analyze volatility connectedness among most traded currencies using high-frequency data from 2009 to 2023. Our study presents the first empirical evidence of a statistically significant association between increases in connectedness and endogenously selected impactful events for most traded currencies. Moreover, we uncover the previously unexplored relationship between twenty-three events affecting global forex connectedness up to one business month ahead and further analyze pre-event connectedness changes. We also distinguish between the transitory and permanent impacts of events on connectedness and confirm the association of four events with a permanent shift in connectedness; two events are associated with the EU and US debt crises. We compute the portfolio weights and hedge ratios for portfolio optimization and uncover the Swiss franc and Japanese yen as the most suitable tools for managing currency risk. The effects of intra-day currency depreciation versus appreciation against the U.S. dollar differ significantly, but the extent of asymmetries declines over time. |
| Keywords: | volatility connectedness, global currencies, bootstrap-after-bootstrap procedure, transitory and permanent effects, debt crisis, portfolio composition and hedging, uncertainty |
| JEL: | C58 F31 F65 G01 G15 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:ces:ceswps:_11606 |
| By: | Boris Ter-Avanesov; Gunter A. Meissner |
| Abstract: | Quanto options allow the buyer to exchange the foreign currency payoff into the domestic currency at a fixed exchange rate. We investigate quanto options with multiple underlying assets valued in different foreign currencies each with a different strike price in the payoff function. We carry out a comparative performance analysis of different stochastic volatility (SV), stochastic correlation (SC), and stochastic exchange rate (SER) models to determine the best combination of these models for Monte Carlo (MC) simulation pricing. In addition, we test the performance of all model variants with constant correlation as a benchmark. We find that a combination of GARCH-Jump SV, Weibull SC, and Ornstein Uhlenbeck (OU) SER performs best. In addition, we analyze different discretization schemes and their results. In our simulations, the Milstein scheme yields the best balance between execution times and lower standard deviations of price estimates. Furthermore, we find that incorporating mean reversion into stochastic correlation and stochastic FX rate modeling is beneficial for MC simulation pricing. We improve the accuracy of our simulations by implementing antithetic variates variance reduction. Finally, we derive the correlation risk parameters Cora and Gora in our framework so that correlation hedging of quanto options can be performed. |
| Date: | 2024–11 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2411.16617 |
| By: | Olaniran, Abeeb; Akanni, Lateef; Salisu, Afees |
| Abstract: | We explore the role of fear associated with migration in predicting exchange rate volatility of Germany, France, and the United Kingdom within the context of the generalized autoregressive conditional heteroscedastic (GARCH) mixed-data-sampling (MIDAS) framework using United States dollar (USD) as the reference currency. While we adopt the quarterly Migration Fear Index and daily exchange rate of Euro (for France and Germany) and GBP (for the UK) to USD for the nexus between migration anxiety and exchange rate volatility, we equally augment our model with Migration Policy Uncertainty (MPU) to examine the joint predictability of the two migration fears proxies on exchange rate volatility. We conduct an empirical analysis that covers the full sample period which is further partitioned into pre- and post-GFC periods to see if the nexus is sensitive to crises periods. We find evidence of migration fears predicting exchange rate volatility of the G-3 country considered, given the statistical significance of our model’s slope coefficient. Although the influence of migration fears on the strengths of the euro and pounds relative to the USD differ, as migration fear causes the former to depreciate and the latter to appreciate, both currencies exhibit high volatility persistence during the period under scrutiny. Our findings have implications for policy-makers on whose shoulders the responsibility of exchange rate management falls. |
| Keywords: | Exchange rate, Migration, Fear, GARCH-MIDAS |
| JEL: | J6 |
| Date: | 2024–11–30 |
| URL: | https://d.repec.org/n?u=RePEc:pra:mprapa:123196 |
| By: | Kim, Cholwoo (Department of Economics, University of Warwick) |
| Abstract: | This paper introduces search frictions in labor and goods markets to explore which condition leads to deviation from LOP, and how asymmetric shocks have an impact on deviation of LOP in an open economy. First, we show that the LOP gap only depends on the ratio of marginal utility of aggregate search across countries. Then, we express the LOP gap in terms of consumption gap across countries and show that asymmetric productivity shocks between countries entail deviations from LOP. This is because asymmetric productivity shocks affect markups via the matching probability, and in turn, induce firms to move across markets. Finally, we also examine responses of macroeconomic variables with respect to country-specific productivity and preference shocks. |
| Keywords: | consumer search ; labor market frictions ; search and matching ; international co-movement JEL Codes: E24 ; E31 ; F41 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:wrk:warwec:1540 |
| By: | Igor Martins; Hedibert Freitas Lopes |
| Abstract: | This paper expands on stochastic volatility models by proposing a data-driven method to select the macroeconomic events most likely to impact volatility. The paper identifies and quantifies the effects of macroeconomic events across multiple countries on exchange rate volatility using high-frequency currency returns, while accounting for persistent stochastic volatility effects and seasonal components capturing time-of-day patterns. Given the hundreds of macroeconomic announcements and their lags, we rely on sparsity-based methods to select relevant events for the model. We contribute to the exchange rate literature in four ways: First, we identify the macroeconomic events that drive currency volatility, estimate their effects and connect them to macroeconomic fundamentals. Second, we find a link between intraday seasonality, trading volume, and the opening hours of major markets across the globe. We provide a simple labor-based explanation for this observed pattern. Third, we show that including macroeconomic events and seasonal components is crucial for forecasting exchange rate volatility. Fourth, our proposed model yields the lowest volatility and highest Sharpe ratio in portfolio allocations when compared to standard SV and GARCH models. |
| Date: | 2024–11 |
| URL: | https://d.repec.org/n?u=RePEc:arx:papers:2411.16244 |
| By: | Kim, Cholwoo (Department of Economics, University of Warwick) |
| Abstract: | This paper examines Ramsey-type optimal monetary policy in an open economy with a two-country dynamic general equilibrium model where search and matching frictions exist in labor markets along with the limited participation in the financial markets. Monetary policy affects the decision of firms in labor markets because firms finance their wage bills with loans from domestic financial intermediaries in advance. There are two main results associated with optimal monetary policy. The long-term optimal nominal interest rate could be zero suggesting negative optimal inflation rate in the long run because the terms of trade effect on consumption could be weaken by search frictions. As a result of Ramsey optimal monetary policy, dynamics of business cycles in both countries show similar patterns in response to a productivity shock and, in turn, higher cross-country correlations of real variables. |
| Keywords: | labor market frictions ; search and matching ; working capital ; optimal monetary policy JEL Codes: E24 ; E52 ; F41 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:wrk:warwec:1539 |
| By: | Martijn Boermans; Tomás Carrera de Souza; Robert Vermeulen |
| Abstract: | In this study, we analyze the impact of the European Central Bank’s (ECB) sovereign bond purchases on bond demand among euro area investors from 2015 to 2022. By employing a novel demand setup, using ownership shares of individual bonds, we separately estimate investor reactions to (i) ECB bond purchases and (ii) new bond issuances. Utilizing bond level data on securities holdings of euro area investors and the ECB, we show that insurance companies and pension funds act as preferred habitat investors and are reluctant to sell the bonds the ECB is buying. Conversely, non-euro area investors from the private sector primarily serve as counterparties for ECB purchases. Our findings indicate significant differences across bond maturities and credit ratings, but minimal differences across the different stages of the quantitative easing (QE) implementation periods and between domestic and non-domestic euro area bonds. |
| Keywords: | quantitative easing; sovereign bonds; European Central Bank; PSPP; securities holdings statistics; bond demand |
| JEL: | E58 F42 G11 G15 |
| Date: | 2025–01 |
| URL: | https://d.repec.org/n?u=RePEc:dnb:dnbwpp:826 |
| By: | Mehling, M. A.; Dolphin, G.; Ritz, R. A. |
| Abstract: | Adopted in 2023, the Carbon Border Adjustment Mechanism (CBAM) is a significant component of the European Union's ambitious decarbonization strategy under the European Green Deal. This working paper questions the CBAM's effectiveness in achieving its stated objective, prevention of carbon leakage, but proceeds to document its impactful role in accelerating the global diffusion of carbon pricing. Empirical evidence for carbon leakage remains sparse, and implementation challenges would limit the capacity of the CBAM to counteract leakage even where it occurs. Nonetheless, the CBAM has already demonstrated a powerful spillover effect by incentivizing the acceleration of carbon pricing roadmaps across EU trading partners, suggesting that trade-related climate measures can effectively encourage global climate action. As the EU navigates the complexities of operationalizing the CBAM, it must balance several tradeoffs to maintain this important spillover effect. If successful, the CBAM could catalyze a virtuous cycle of carbon pricing adoption, reinforcing its pivotal role in the EU's toolbox to manage the environment-trade nexus. |
| Keywords: | CBAM, Carbon Pricing, Carbon Leakage, Environment-Trade Nexus, European Union |
| JEL: | F42 H23 Q58 |
| Date: | 2024–10–07 |
| URL: | https://d.repec.org/n?u=RePEc:cam:camdae:2459 |
| By: | Kim, Cholwoo (Department of Economics, University of Warwick) |
| Abstract: | 1539 - |
| Keywords: | labor market frictions ; search and matching ; international co-movement ; wage rigidity JEL Codes: E24 ; E32 ; F41 |
| Date: | 2025 |
| URL: | https://d.repec.org/n?u=RePEc:wrk:warwec:1538 |