Portfolio flows and the US dollar\u2013yen exchange rate

Faek Menla Ali,Nicola Spagnolo,Fabio Spagnolo

doi:10.1007/s00181-016-1075-7

Faek Menla Ali, Nicola Spagnolo + Show 1 more

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https://doi.org/10.1007/s00181-016-1075-7

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Journal: Empirical Economics	Publication Date: Apr 9, 2016
Citations: 11	License type: open-access

Affiliation: Brunel University London

Abstract

This paper investigates the effects of portfolio flows on the US dollar–Japanese yen exchange rate changes over the period 1988:01–2011:04. Using a time-varying transition probability Markov-switching framework, the results suggest that the impact of portfolio flows on the dollar–yen exchange rate changes is state-dependent. In particular, the results show that portfolio inflows from Japan toward the US, more than monetary variables, strengthen the probability of remaining in the dollar–yen appreciation (low volatility) state. Therefore, credit controls on the flows can be used as a policy tool to pursue economic and financial stability.

Highlights

Over the recent years, there has been a significant attention on the cross-border portfolio flows effects on exchange rate changes and its volatility
B Faek Menla Ali faek.menlaali@brunel.ac.uk 1 Department of Economics and Finance, Brunel University London, Uxbridge, Middlesex UB8 3PH, UK 2 Centre for Applied Macroeconomic Analysis (CAMA), Canberra, Australia paper, we examine to what extent equity and bond portfolio flows between the US and Japan affect the corresponding US dollar–yen exchange rate changes, given that the cross-border acquisition of long-term securities between these countries has grown over the recent years
The only exception is the study by Menla Ali et al (2014), who used a fixed transition probability Markov-switching specification and found that net bond flows have a significant impact on dollar–yen exchange rate changes only in periods of low volatility

Summary

Introduction

There has been a significant attention on the cross-border portfolio flows effects on exchange rate changes and its volatility. This paper contributes to the existing literature by examining the nonlinear impact of cross-border portfolio flows on dollar–yen exchange rate changes. The only exception is the study by Menla Ali et al (2014), who used a fixed transition probability Markov-switching specification and found that net bond flows have a significant impact on dollar–yen exchange rate changes only in periods of low volatility. Considering the recent evidence of Menla Ali et al (2014) on nonlinear dependence, this paper uses the time-varying transition probability Markov-switching framework as an alternative way to examine the nonlinear impact of the flows on the dollar–yen exchange rate changes. The adopted framework is flexible enough to capture the nonlinearity in the relationship between exchange rate changes and portfolio flows as it separates periods of appreciation from periods of depreciation and of high volatility from those of low volatility allowing the probabilistic structure of the transition from one regime to the be a function of the flows.

The model

Data description and empirical results

Conclusion