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on International Finance |
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Issue of 2010‒04‒11
fourteen papers chosen by Ajay Shah National Institute of Public Finance and Policy |
| By: | A. H. Ahmad (Dept of Economics, Loughborough University); Eric J. Pentecost (Dept of Economics, Loughborough University) |
| Abstract: | The impact of terms of trade shocks on a country’s output and price level are, according to economic theory, expected to vary according to the de facto exchange rate regime. This paper tests this hypothesis how terms of trade shocks impact on 22 African countries, which operate different de facto exchange rate regimes, using a structural VAR with long-run restrictions, over the period from 1980 to 2007. The empirical findings support the view that the exchange rate regime matters as to how countries respond to exogenous external shocks like terms of trade shocks, in that output variation is greater for countries with fixed regimes, while for flexible regime countries real exchange rate variation reduces the need for output variability. |
| Keywords: | Terms of Trade, Exchange Rate Regimes, Structural VARs |
| JEL: | F13 F31 F41 |
| Date: | 2010–03 |
| URL: | http://d.repec.org/n?u=RePEc:lbo:lbowps:2010_08&r=ifn |
| By: | Craig Burnside; Bing Han; David Hirshleifer; Tracy Yue Wang |
| Abstract: | We offer an explanation for the forward premium puzzle in foreign exchange markets based upon investor overconfidence. In the model, overconfident individuals overreact to their information about future inflation, which causes greater overshooting in the forward rate than in the spot rate. Thus, when agents observe a signal of higher future inflation, the consequent rise in the forward premium predicts a subsequent downward correction of the spot rate. The model can explain the magnitude of the forward premium bias and several other stylized facts related to the joint behavior of forward and spot exchange rates. Our approach is also consistent with the availability of profitable carry trade strategies. |
| JEL: | F31 G15 |
| Date: | 2010–04 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:15866&r=ifn |
| By: | Joshua Aizenman; Menzie D. Chinn; Hiro Ito |
| Abstract: | Using the “trilemma indexes” developed by Aizenman et al. (2008) that measure the extent of achievement in each of the three policy goals in the trilemma—monetary independence, exchange rate stability, and financial openness—we examine how policy configurations affect macroeconomic performances, with focus on the Asian economies. We find that the three policy choices matter for output volatility and the medium-term level of inflation. Greater monetary independence is associated with lower output volatility while greater exchange rate stability implies greater output volatility, which can be mitigated if a country holds international reserves (IR) at a level higher than a threshold (about 20% of GDP). Greater monetary autonomy is associated with a higher level of inflation while greater exchange rate stability and greater financial openness could lower the inflation rate. We find that trilemma policy configurations and external finances affect output volatility through the investment or trade channel depending on the openness of the economies. While a higher degree of exchange rate stability could stabilize the real exchange rate movement, it could also make investment volatile, though the volatility-enhancing effect of exchange rate stability on investment can be offset by holding higher levels of IR. Our results indicate that policy makers in a more open economy would prefer pursuing greater exchange rate stability while holding a massive amount of IR. Asian emerging market economies are found to be equipped with macroeconomic policy configurations that help the economies to dampen the volatility of the real exchange rate. These economies’ sizeable amount of IR holding appears to enhance the stabilizing effect of the trilemma policy choices, and this may help explain the recent phenomenal buildup of IR in the region. |
| JEL: | F15 F21 F31 F36 F41 O24 |
| Date: | 2010–04 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:15876&r=ifn |
| By: | Maurizio Michael Habib (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.) |
| Abstract: | This paper studies net foreign assets and the differential returns between gross foreign assets and liabilities for a sample of 49 countries between 1981 and 2007. It shows that investment income is more important than capital gains in imparting a drift to net foreign assets over the long-run, whereas the latter dominate short-term dynamics. Excess returns on net foreign assets of the United States are indeed exorbitant from a global perspective, only occasionally matched by other countries and mainly accounted for by positive valuation effects. The role of the United States as levered investor did not contribute to its exorbitant privilege. The econometric panel analysis also fails to find a robust positive relationship between leverage and excess returns. Notably, instead, real exchange rate depreciations increase excess returns through capital gains, proportionally to the relative foreign currency exposure. Excess yields on investment income are positively associated with the country risk rating. JEL Classification: F30, F31, F36. |
| Keywords: | net foreign assets, excess returns, exorbitant privilege, leverage. |
| Date: | 2010–02 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20101158&r=ifn |
| By: | Marzovilla, Olga; Mele, Marco |
| Abstract: | In May 2007, Kuwait unilaterally abandoned the dollar peg, adopted in 2003 as a first step towards the monetary integration of GCC countries, to return to the previous basket peg system. The decision was motivated by the need to limit the inflationary pressures resulting from prolonged depreciation of the dollar against major currencies. Given the importance the anti-inflationary objective had in this choice, the work focuses on the peculiarities of Kuwait’s economy, justifying and reviewing the price dynamics in the light of re-pegging to the basket, in the belief that its composition has been affected by inflationary trends. To this end, an econometric model "Auto-Regressive Moving Average" is proposed to define the weights of currencies in the basket and the estimate shows that Euro’s has increased during the period, consistent with the goals against inflation. This is a particularly important to the future of the planned monetary union of the GCC countries, given the renewed commitment of Kuwait to be part of it, despite the existence of different exchange rate systems in force in other countries. |
| Keywords: | GCC countries; exchange rate regimes; basket peg; dollar peg; inflation |
| JEL: | F15 F32 E31 F33 F31 |
| Date: | 2010–03–18 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:21605&r=ifn |
| By: | Andrade, Sandro C. (School of Business Administration, University of Miami); Kohlscheen, Emanuel (Economics Department, University of Warwick) |
| Abstract: | Using survey data, we document that foreign-owned institutions became more pessimistic than locally owned institutions about the strength of the Brazilian currency around the 2002 presidential elections. As a result of their relative pessimism, foreignowned institutions made larger forecast errors. Consistent with the emergence of their relative pessimism, foreign investors heavily sold Brazilian stocks and the Brazilian currency in futures markets ahead of the 2002 elections. Periods of stronger foreign sell-off were associated with larger equity price declines and larger depreciation of the Brazilian Real in spot and futures markets. These results are consistent with foreign investors’ lack of knowledge of Brazilian institutions contributing to the sharp depreciation of the Brazilian currency and stock market ahead of the 2002 presidential elections. |
| Keywords: | currency crisis ; portfolio flows ; difference of opinions ; elections JEL Codes: F31 ; F36 ; G15 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:wrk:warwec:926&r=ifn |
| By: | Mora, Nada (Federal Reserve Bank of Kansas City); Logan, Andrew (Oxford Economics) |
| Abstract: | This paper assesses how shocks to bank capital may influence a bank’s portfolio behaviour using novel evidence from a UK bank panel data set from a period that pre-dates the recent financial crisis. Focusing on the behaviour of bank loans, we extract the dynamic response of a bank to innovations in its capital and in its regulatory capital buffer. We find that innovations in a bank’s capital in this (pre-crisis) sample period were coupled with a loan response that lasted up to three years. Banks also responded to scarce regulatory capital by raising their deposit rate to attract funds. The international presence of UK banks allows us to identify a specific driver of capital shocks in our data, independent of bank lending to UK residents. Specifically, we use write-offs on loans to non-residents to instrument bank capital’s impact on UK resident lending. A fall in capital brought about a significant drop in lending in particular, to private non-financial corporations. In contrast, household lending increased when capital fell, which may indicate that – in this pre-crisis period – banks substituted into less risky assets when capital was short. |
| Keywords: | Bank capital; bank lending |
| JEL: | E44 F34 G21 |
| Date: | 2010–03–31 |
| URL: | http://d.repec.org/n?u=RePEc:boe:boeewp:0387&r=ifn |
| By: | Alicia GarcÃa-Herrero; Philip Woolbridge; Doo Yong Yang |
| Abstract: | This paper seeks to understand why Asian foreign investment is concentrated in financial markets outside of the region instead of in Asian markets. We analyse empirically the geographical composition of the cross-border portfolio holdings of more than 40 source countries. We compare these benchmark results with those of four subgroups: advanced industrial economies; emerging market economies; European economies; and Asia-Pacific economies. The lack of liquidity in Asian financial markets turns out to be one reason why Asian capital is invested predominantly outside the region, notwithstanding the short distances and large trade flows between Asian economies. Initiatives to improve the liquidity of Asian financial markets, therefore, may be a useful way to stimulate financial integration within the region. |
| Keywords: | Cross-border portfolio investment; regional financial integration; gravity model. |
| JEL: | F21 F36 G11 |
| Date: | 2009–04 |
| URL: | http://d.repec.org/n?u=RePEc:bbv:wpaper:0908&r=ifn |
| By: | Drelichman, Mauricio; Voth, Hans-Joachim |
| Abstract: | Philip II of Spain accumulated debts equivalent to 60% of GDP. He also defaulted four times on his short-term loans, thus becoming the first serial defaulter in history. Contrary to a common view in the literature, we show that lending to the king was profitable even under worst-case scenario assumptions. Lenders maintained long-term relationships with the crown. Losses sustained during defaults were more than compensated by profits in normal times. Defaults were not catastrophic events. In effect, short-term lending acted as an insurance mechanism, allowing the king to reduce his payments in harsh times in exchange for paying a premium in tranquil periods. |
| Keywords: | sovereign debt; serial default; rate of return; profitability; Spain |
| Date: | 2010–04–01 |
| URL: | http://d.repec.org/n?u=RePEc:ubc:bricol:mauricio_drelichman-2010-12&r=ifn |
| By: | Kerstin Bernoth; Jürgen von Hagen; Casper G. de Vries |
| Abstract: | We use futures instead of forward rates to study the complete maturity spectrum of the forward premium puzzle from two days to six months. At short maturities the slope coefficient is positive, but these turn negative as the maturity increases to the monthly level. Futures data allow us to control for the influence of an unobserved factor that can be decomposed into a contract-specific and a time- to-maturity effect. Once we do this, we find that the coefficients on the forward premium are much closer to one. The latent factor is shown to be related to conventional proxies of risk. |
| Keywords: | forward premium puzzle, futures rates, latent factor |
| JEL: | F31 F37 G13 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwwpp:dp989&r=ifn |
| By: | Arjana Brezigar-Masten (Institute for Macroeconomic Analysis and Development); Fabrizio Coricelli (Centre d'Economie de la Sorbonne and CEPR); Igor Masten (European University Institute and University of Ljubjana) |
| Abstract: | This papers provides an empirical analysis of the role of financial development and financial integration in the growth dynamics of transition countries. We focus on the role of financial integration in determining the impact of financial development on growth, distinguishing "normal times" from periods of financial crises. In addition to confirming the significant positive effect on growth exerted by financial development and financial integration, our estimates show that a higher degree of financial openness tends to reduce the contractionary effect of financial crises, by cushioning the effect on the domestic supply of credit. Consequently, the high reliance on international capital flows by transition countries does not necessarily increase their financial fragility. This implies that financial protectionism is a self-defeating policy, at least for transition countries. |
| Keywords: | Transition economies, financial integration, financial crises, economic growth, threshold effects. |
| JEL: | F33 F36 G15 |
| Date: | 2010–02 |
| URL: | http://d.repec.org/n?u=RePEc:mse:cesdoc:10021&r=ifn |
| By: | K.C. Fung; Alicia Garcia-Herrero; Alan Siu |
| Abstract: | In this paper we compare and contrast the determinants of outward direct investment from China with those from Japan, South Korea and Taiwan. We examine both descriptively as well as econometrically the various motives and factors behind the investment abroad from these four Asian economies. The hypotheses we are testing include the market-seeking hypothesis, the natural resource-seeking hypothesis, the technology acquisition hypothesis and the human capital hypothesis. We examine outward direct investment for China for the years 1991-2006, Japan for 1983-2007, Korea for 1980-2007 and Taiwan for 1968-2007. Our results using the full set of determinants yield uniform support for the marketseeking hypothesis. The natural resource-seeking motives hold for Japan and Korea, while the technology acquisition hypothesis seems relevant for Taiwan. Chinese investments tend to go to destinations with poorer labor quality. In addition, openness is important for Japanese investment abroad, while distances deter investment from China and Korea. |
| Date: | 2009–09 |
| URL: | http://d.repec.org/n?u=RePEc:bbv:wpaper:0919&r=ifn |
| By: | Alicia GarcÃa-Herrero; K.C. Fung; Francis Ng |
| Abstract: | In this paper we critically review the relevant information and literature and that can enhance the feasibility and the successful implementation of cross-border infrastructure projects. We provide detailed information concerning FDI into the major emerging regions: East Asia/Pacific, Latin America and Eastern Europe. We also discuss the theoretical and empirical literature which sheds light on the characteristics of transnational infrastructure projects, who should conduct them and what determines their existence. The literature points to the importance of governments to be involved in transnational infrastructure projects as there are clear externalities which will otherwise not be reaped. It also points to the importance of coordination for the project to be successful. The ADB is well placed to perform that role. Lastly we provided a total of six cases of cross-border infrastructure projects, with two from East Asia, two from Latin America and two from Eastern Europe. These cases illustrate the critical need for smooth coordination over the diverse groups of team players, a top-level backing of the projects as well as a thorough Understanding of all the political and financial factors involved that can influence the success of these projects. |
| Date: | 2009–09 |
| URL: | http://d.repec.org/n?u=RePEc:bbv:wpaper:0917&r=ifn |
| By: | de Bandt, O.; Barhoumi, K.; Bruneau, C. |
| Abstract: | In order to assess transmission mechanisms between global and domestic house prices, and possibly contagion effects, we use a large database of macroeconomic variables for OECD countries. We extract common factors to summarize the comovements of the variables and include them in stationary FAVAR models. We mainly focus on the "pandemic" view of contagion where local shocks, originating from a country or a local housing market, spread out to other domestic housing markets. An interesting finding is that, even allowing for other channels of international transmission (through global interest rates, or activity), the US real house price, which appears to be exogenous in the US dynamics, unidirectionally causes the international house price factor, which in turn causes the domestic real house price growth for several countries. The channels of contagion from the US appears therefore to be either direct, through house prices (in particular in the UK or Spain), or indirect through other variables. |
| Keywords: | housing, factor models, Vector Autoregressive model. |
| JEL: | G33 E32 D21 C41 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:bfr:banfra:274&r=ifn |