Abstract
Owing to the country’s heavy reliance on exports, the role of foreign exchange intervention in South Korea’s economic development is self-evident. The effectiveness of the intervention is what we are concerned with in this paper. Recently, a growing body of literature has engaged in exploring the asymmetric effects of foreign exchange intervention both theoretically and empirically. Against this background, we employ a threshold vector autoregression (TVAR) model in parallel with its generalized impulse response functions (GIRFs) to show that there are asymmetric effects of the Bank of Korea (BOK)-led interventions regardless of the volatility regimes.
Highlights
In the early 1970s, with the link between gold and US dollars being severed and the collapse of the pegged exchange rate regime, a new monetary system, the floating exchange rate regime, arose
When using exchange rate volatility as the threshold variable, the threshold values are estimated to be 0.9606% and 0.7694% for Model 1 and Model 2, respectively. These results indicate two regimes: the regime of high exchange rate volatility, which includes exchange rate volatility values above 0.9606%, and the regime of low exchange rate volatility, which includes values lower than 0.9606%
The exchange rate volatility is observed to significantly decrease by approximately 0.35 pp in response to a positive shock to the ratio of reserves to GDP when the system is in the high exchange rate volatility regime, while it is nonsignificant in the low regime
Summary
In the early 1970s, with the link between gold and US dollars being severed and the collapse of the pegged exchange rate regime, a new monetary system, the floating exchange rate regime, arose. Thereafter, in an effort to ameliorate the liquidity of balance of payment (BOP), the South Korean government, over an extended period, accelerated the opening-up of capital (financial) accounts and loosened restrictions on foreign capital inflows. The Korean monetary authority attempted to secure high dollar liquidity through swap market during the 2008 global financial crisis. Raising bond yields (lowering bond prices) gives rise to higher market interest rates followed by net capital inflows due to interest rate spreads. This stimulates the BOK to go on to the sterilized intervention. The outstanding contribution of this paper is to investigate the impulse responses related to external foreign reserve shocks We do this by unfolding each of the related endogenous variables.
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