Exchange Rate Behavior Research Articles

The Hedging Channel of Exchange Rate Determination

Abstract We propose the currency hedging channel that connects countries’ external imbalances to their exchange rate behavior. We present a model in which investors increase their currency hedging during periods of financial distress in proportion to their net foreign asset exposure. This behavior coupled with constrained financial intermediation explains observed relationships between gradually adjusting external imbalances and volatile spot and forward exchange rates. We find empirical support for the hedging channel in both the conditional and unconditional moments of exchange rates, option prices, and countries’ uses of Federal Reserve swap lines. (JEL E44, F31, F32, F41, G11, G15)

The impact of changes in macroeconomic factors on banks’ lending behaviour

Loans are a critical transmission channel for commercial banks as well as an important revenue source. Macroeconomic factors are not within the control of commercial banks, however, select factors are observed to have a direct impact on lending behaviour in studies around the world. This study examined the relationship between macroeconomic variables and the lending behaviour of banks in South Africa for the period ranging from 2001 to 2022. Quarterly time series data was employed using the Autoregressive Distributed Lag Model (ARDL). The empirical results of the paper revealed that there is a long-run relationship between the repurchase rate (repo rate), inflation, the real effective exchange rate (REER) and lending behaviour in South Africa. The REER and inflation were both found to have a positive relationship, whilst the repo rate had a negative relationship. In addition, Gross Domestic Product (GDP), the activity rate and sovereign credit rating (SCR) changes returned insignificant results. Overall, these findings show that select macroeconomic factors do influence lending behaviour in South Africa. Furthermore, the results suggest that monetary policy decisions have a direct influential effect on lending and the South African Reserve Bank (SARB) has implemented their policies effectively.

Indirect Evidence of the Effect of Informal Economy in the Behavior of the Foreign Currency’s Prices: A Case Study

The effect of informal economy on the behavior of exchange rate is complex and difficult to evaluate in common economic conditions. But if informal sector is sizeable and a certain foreign currency is used for transactions therein without being converted, the supply and the demand for this currency, the velocity of the money circulation, and several other variables would be impacted, implicating a measurable response in the corresponding FX rates’ behavior, while the other currencies’ prices will be less affected. Consequently, distinguishable dissimilarities regarding dynamics and statistical features are expected for the exchange rates of the currencies traded in the country. By evidencing and analyzing them, we can proceed with a backward analysis to identify the hidden relationships between informal economy and exchange rates. As a case study we analyzed the FX rates of main currencies traded in Albania, considering that specifically the Euro is used at a non-neglected volume as national currency substitute in the informal sector. Recognizing the complexity of the relationship under investigation, we have employed an interdisciplinary approach by incorporating econometrics and econophysics approaches. After examining the multifractal features of each FX series, the non-stationarity measure for distributions of the corresponding rate of returns, and the significance of self-organizing regimes on FX time series, we noticed that the price of the EU currency behaves distinguishably different. We described the specific features observed for the Euro-ALL exchange rates as an indication of their response to the informal economy and partial usage of the Euro in the role of national currency in this sector. Those findings are used also for opinionizing regarding formalization issues and scenarios of replacement of national currency by the Euro. Acknowledging that informality is undoubtedly harmful for the economy, this work is limited to providing an alternative explanation of specific FX rates comportment observed in the country, and to offer a descriptive analysis for similar systems.

Exchange Rates and Prices in the Netherlands and Britain over the Past Four Centuries

AbstractThe paper studies the long‐term stability of the purchasing‐power‐parity (PPP) relation using data for the Netherlands and Great Britain (earlier the Dutch Republic and England) from 1590 until 2020. We begin by investigating the behavior of the real exchange rate in rate‐of‐growth form finding strong evidence supporting long‐run relative PPP. Turning to price levels, we find evidence of mean‐reverting behavior over the whole period with one long‐lived shift in mean between 1788 and 1931. The myriad other factors that varied over this long period that might have affected the stability of the PPP relation do not appear to have mattered.

The Monetary Model of Exchange Rate Determination for South Africa

The disconnect between the exchange rate and its macroeconomic fundamentals has been extensively discussed in the literature. It nonetheless continues to pose theoretical and empirical challenges in the literature. This study examines the relationship between the exchange rate and its fundamentals. This study used the monetary model of exchange rate determination developed in the 1970s. The study used the TAR to estimate the exchange change rate behaviour in response to variations in monetary variables. We found that the exchange rates respond to the interest rate differential, consistent with the predictions of the monetary model of exchange rate determination. Furthermore, in all the regimes, the sizes of coefficients are different, which shows that the exchange rate behaviour is non-linear (asymmetric). While the impact of the interest rate differential in regime 1 and 2 leads to exchange rates appreciating although in regime 2 the results are insignificant, this occurs when the exchange rates fluctuate below 0.87 percentage points. In regime 3, on average, a marginal increase in interest rate deferential leads to an exchange rate depreciation. In some instances, the exchange rates respond to the monetary variables’ changes in line with the predictions of the monetary theory of exchange rate determination. An increase in interest rates in some instances leads to an improvement in the value of the exchange rate. However, the conditions are not constant—they vary depending on the state of exchange rate fluctuation.

EXAMINING THE VALIDITY OF PURCHASING POWER PARITY: EVIDENCE FROM SRI LANKAN CONTEXT IN RECENT PAST

This research study examined validity of Purchasing Power Parity (PPP) by studying the behaviour of nominal exchange rate and relative price levels between Sri Lanka and United States (US). The theory of PPP has been used to estimate the relationship between relative prices and nominal exchange rate between two countries. Exchange rate between USD/LKR has been taken as dependent variable whereas Relative Price Index between US Price Index and Colombo Consumer Price Index has been taken into consideration as independent variable. The study has been undertaken with the objective of estimating statistically whether Sri Lanka exists Purchasing Power Parity from January 2015 to December 2022. Data that has been collected for this study is monthly time series data from January 2015 to December 2022, which was collected from the data library of the Central Bank of Sri Lanka (CBSL) and data library of International Monetary Fund (IMF) have been used for this study. The results have been estimated using statistical techniques. These include mainly Augmented Dickey Fuller Test for Unit Root Testing, Descriptive Statistics, Ordinary Least Squared (OLS) method and Granger Causality Test. E-views statistical software is used to analyse the PPP model. Econometric Techniques are used to analyse the regression model.

Identifying the Probability Distribution of Exchange Rates in Sri Lanka

The exchange rate is one of the main components that represents the status of a country’s economic condition. This study mainly focuses on identifying an appropriate distribution that can capture the asymmetric behaviour of important currency exchange rates related to Sri Lanka. The true behaviour of the exchange rates of USD, EURO, JPY, AUD, GBP, CHF, SGD and CAD in terms of LKR was determined using flexible distributions of generalised lambda distribution (GLD), Normal Inverse Gaussian and Skew-Normal. The parameter estimation was carried out by maximum likelihood estimation (MLE), while for GLD, few more parameter estimation techniques were applied. To understand how well the fitted distributions identify the real behaviour of data, we conducted the goodness-of-fit (GOF) tests. The results from Cramer–Von Mises (CvM) and Anderson–Darling (AD) GOF tests pointed out that the exchange rates data follow a GLD with the parameter estimation of maximum product of spacings (MPS). Further, plots of histograms with theoretical densities, cumulative distribution functions (CDFs) with empirical CDF and Quantile–Quantile plots illustrated the same idea. This study presented the findings based on different suitable parameter estimation techniques and this study is the first investigation on the distribution identification of exchange rates in Sri Lanka. JEL Codes: C12,C13,G10

Forecasting multi‐frequency intraday exchange rates using deep learning models

AbstractThis paper examines the behavior of currencies' intraday exchange rates with mainly focuses on predicting these behaviors through deep learning models. The time series data are used in this study and comprise intraday exchange rate data for seven volatile currencies, recorded at two different frequency intervals: 1 h and 30 min. The data cover the time frame from January 1, 2018, to December 31, 2020. Firstly, wavelet maximal overlap discreet wavelet transform (MODWT) type “haar” is applied in order to identify the noise representing the volatile trend. Then learning models are applied to historical data that includes support vector regression (SVR), recurrent neural network (RNN), and long short‐term memory (LSTM). The main findings of the study provide strong evidence that the deep learning technique (i.e., LSTM) outperforms the other compatible models. This has been confirmed by the statistical measures for accuracy purposes. This study intends to address complex trends exhibited by volatile behavior of intraday exchange rates through non‐conventional learning techniques for the time of need‐based for the currency traders and other stakeholders.

Exchange rate expectations and exchange rate behaviour in the South African context

The literature maintains that exchange rate movements are largely dependent on expectations formed by economic agents. The study attempts to understand the impact of exchange rate expectations on the behaviour of the exchange rates. We use the Markov Switch Model to estimate the probability of the exchange rates transitioning from regime-to-regime. The study finds that the exchange rate movement is asymmetric to its expectations.

Comportamento da Taxa de Câmbio nos BRICS

ABSTRACT This article aims to investigate the behavior of exchange rate in the BRICS countries, with an emphasis on exchange rate passthrough and exchange rate determination empirical models. By applying the ARDL Bounds Testing Approach Methodology, from January 2005 to December 2019. Our main results show that: i) there is a long run cointegration among the variables analyzed for all estimated models; ii) there is a very slow speed of adjustment towards the long run equilibrium; iii) there is evidence of exchange rate passthrough to inflation mainly in the long run, but not as strong as before; iv) there is no evidence of exchange rate overshooting; v) international reserve accumulation can be considered a partial explanation for the evidence of no exchange rate overshooting.

Understanding Korea's Long-run Real Exchange Rate Behavior

Understanding Korea's Long-run Real Exchange Rate Behavior

Understanding Korea's Long-Run Real Exchange Rate Behavior

Understanding Korea's Long-Run Real Exchange Rate Behavior

Nominal and Real Shocks in the EURALL Exchange Rate. (A SVAR Guide)

Exchange rates are one of the most important topics in the economic and financial sectors. Considering the exchange rate as the price between currencies, financial theories aim to understand the behavior of exchange rates from a more rational viewpoint. Domestic and foreign inflation has a direct impact on the real interest rates and the exchange rates. This paper aims to analyze the nominal and real shocks of the exchange rate between the Euro and Albanian lek [EURALL]. As the most important foreign currency used in the Republic of Albania, the euro is becoming more and more a stable determinant of prices and asset values in the Albanian economy. The vast majority of import and export is dependent on the EURALL trend. That is one of the main reasons why it is so important to study the shocks in the EURALL exchange rate. The Structural Vector Autoregressive (SVAR) models can be used to understand the effects of imposing some long-run restrictions. In addition, some short-run shocks play a major role and continue to have effects even in the long run. This paper takes into consideration the monthly data of exchange rates and inflation of Albania and the Eurozone from 2016 – 2022 (the last 7 years). As one of the most important models, SVAR models can be used in both fiscal and monetary policymaking. Studying nominal and real exchange rates means studying inflation in the eurozone and Albania. Real shocks have a significant impact on both nominal and real exchange rates. Meanwhile, there is no evidence that the nominal shocks (such as institutional interventions or central bank operations) have an important impact on the nominal and real exchange rates. Referring to that, we can conclude that policymaking institutions should be cautious about the real exchange rate.

Revisiting the Exchange Rate -Oil Price Nexus in Turbulent Period: What Can We Learn From Nigeria and South Africa During Covid-19?

ABSTRACT: The debate on the exchange rate–oil price nexus usually rests on the fact that oil price is quoted in US dollar (USD) and therefore, fluctuations in oil price may affect the exchange rate behavior of trading nations through the USD. However, it might be inaccurate to generalize the dynamic of the nexus for both net oil-exporting and net oil-importing economies particularly when exchange rates in these economies are running under floating regime. As a result, we revisit the dynamics of returns and volatility spillovers between exchange rates and oil prices in the turbulent period of COVID-19 from the perspective of the oil-exporting/oil-importing dichotomy, using the cases of Nigeria and South Africa. According to the results of the various pre-estimation tests, we find the VARMA-DCCGARCH model to be the best fit for modelling the interdependence of exchange rates and oil prices in the investigated economies. Empirically, \we show that regardless of the oil-exporting or oil-importing peculiarity of an economy, unanticipated events in exchange rates and oil prices in the current period have the potential to fuel volatility in their returns in the preceding period. Also, not only is the magnitude and direction of the spillovers different under the different waves of COVID-19 but also sensitive to whether an economy is oil-exporting or oil-importing. Thus, while South Africa and Nigeria are among the top 5 African countries with the highest incidences of COVID-19, the permanency or transitory dynamics of the shocks to exchange rates and oil prices during the COVID-19 pandemic appears to be sensitive to whether an economy is oil-exporting or oil-importing. It is in view of this, among other things, that we herein infer that while the immediate policy response to an exogenous shock such as COVID-19 may be global and general for all countries, as is the case with the lockdown initiative, the long-run efforts at recovering from the shock may require that the peculiarities of the individual economies be taken into consideration, as is obvious from the findings of this study.

Dynamic linkages between real exchange rates and real unit labour costs: evidence from 18 economies

ABSTRACT The article examines the long-run behaviour of real exchange rates based on the premises of classical political economy. Specifically, it investigates the dynamics between real exchange rates and real unit labour costs of tradable commodities for 18 developed and developing economies. The analysis is carried out by applying recent methods of panel data, while the short- and long-run dynamics are estimated based on the cross-sectional autoregressive distributed lag model. Our findings confirm the presence of short- and long-run effects of real unit labour costs on real exchange rates. Consequently, new and more effective foreign exchange rate policies may be designed.

BRICS EXCHANGE RATES IN THE POST-FINANCIAL CRISIS: AN EMPIRICAL ANALYSIS

ABSTRACT In this study, we have investigated the volatility of the exchange rate, the direction of spillover, and the long- and short-run relationships that exist in Brazil, Russia, India, China, and South Africa (BRICS). Further, we will look into how the BRICS economies' volatility is transmitted to one another so that investors can better manage risk and make prudent investment decisions. Understanding volatility transmission is an essential driver for constructing a diversified portfolio. We conducted the study using foreign exchange rate data from 2009 to 2019 for all BRICS economies covering the period after the financial crisis but before the outbreak of COVID 19. To obtain equilibrium relationship dynamics and the asymmetric effect of information in the market, we have applied the Johansen cointegration test, the pairwise Granger causality test, and the GARCH model. The study successfully analyzed long-term relationships and explained the direction of impact as well as volatility transmission in some market segments. We found significant volatility spillovers among the emerging markets that led to convergence between these economies. Within the BRICS economic bloc, Brazil has shown the highest number of associations with other members. Additionally, we discovered weak association between the selected economies. The findings of this study will provide insights into the behavior of exchange rates in the BRICS economies. Keywords BRICS, Foreign Exchange Rate, Cointegration, Granger Causality, Volatility.

Predicting Rupiah Sentiment Using Social Sentiment Analysis

In recent years, the behavior of foreign currency exchange rates (FOREX) has attracted a lot of attention from policy makers, investors, academics and regulators because due to its rapidly changing prices. FOREX predicting based on sentiment analysis has attracted a wide variety of research in finance and natural language processing. The availability of news, social media networks, and the rapid development of natural language processing methods result in better predictive performance. However, new studies related on Rupiah (Rupiah is legal money circulating in Indonesia) sentiment and its correlation with other FOREX are still rare and interesting to study.The purpose of this study is to (1) assess the accuracy of predicting Rupiah sentiment using social sentiment analysis and (2) to investigate the correlation between Rupiah sentiment and IDR currency exchange rate. The methodological approach used for this study is based on social sentiment analysis on Twitter and Pearson correlation.The result of this study is (1) from the seven models that we compared, the Decision Tree (DT) and Random Forest (RF) algorithm models have the best accuracy to avoid misclassification based on AUC. The accuracy measured by F1-score has values of 92.13% for both DT and RF, and (2) Rupiah sentiment has a strong positive correlation with USD (P-value: 0.017, r-value: 0.421) and SAR (P-value: 0.016, r-value: 0.419) exchange rate. On the other hand, Rupiah sentiment has a low significant negative correlation with AUD (P-value: 0.051, r-value: -0.403) and EUR (P-value: 0.079, r-value: -0.479). Rupiah sentiment also has a low but positive correlation with MYR (P-value: 0.073, r-value: 0.180) and is not significant with SGD (P-value: 0.119, r-value: -0.348) although it has a positive correlation. The strong positive correlation represents that the more positive Rupiah sentiment on Twitter, the stronger IDR exchange rate against another foreign currency, and vice versa.

Constraints on currency market movements – Implications for the RMB exchange rate regime

AbstractThis paper reveals the inherent characteristics behind the statistical phenomena of exchange rate interactions and co‐movements, corroborated empirically by exploring a range of currencies with varied degrees of flexibility. It then studies purposely the historical evolution and development prospects of the RMB exchange rate regime. The RMB exchange rate behaviour and statistical patterns are contrasted with the freely floating currencies in this context. Taking up alternative policy positions, the expected developments in RMB characteristics are deliberated, projecting a trajectory for further RMB regime reforms. How the RMB would fulfil the significant role on the global currency market as signified by its position in the SDR basket is contemplated, beyond a conventional policy shift and under the paradigm that the global currency market tends to be tri‐polar.

The behavior of the real effective exchange rate of Ethiopia: does misalignment exist?

ABSTRACT This study examined the main drivers of real effective exchange rate (REER) misalignment for Ethiopia over the period 1970–2020. Based on the behavioural equilibrium exchange rate concept, the study used the dynamic OLS and Markov regime switching model (MSM). The cointegration results revealed that the REER appreciates for an increase in relative productivity, government spending and net remittances, but it depreciates for more trade openness and real investment in the long-run. The MSM results also suggested a distinct misalignment episodes of under- and overvaluation with significant variability for the Ethiopia’s Birr over the study period.

The Regime Examination of Nigeria Exchange Rate Volatility: Evidence from Markov Regime Switching Autoregressive Approach

Inarguably, the escalation in dollar rates and the price instability in the Nigerian economy underwent significant structural and institutional changes. In assessing the importance of understanding exchange rates, it becomes imperative to build reliable models for predicting the volatility of exchange rates of home currency. Hence, this study aims to model the Nigerian exchange rate volatility using the Markov regime-switching model. The study analyses the Nigerian exchange rate returns in two and three distinct regimes by employing the Markov regime-switching autoregressive (MS-AR) model with data from 2nd January 2018 to 7th September 2020. Four MS-AR candidate models were estimated for the exchange rate series. Based on the least AIC value, MS(3)-AR(2) was returned as the most parsimonious model among the four candidate models. The MS(3)-AR(2) analysis established a high probability that the returns system remains in the liquidation and awareness states. It implied that only unconventional or severe events could switch the series from regime 2 (liquidation phase) and regime 3 (awareness). While there is a low probability that the system will stay in an imbalanced regime implies high switching of regime 1. Furthermore, an average duration period of 2 days, six days and five days were estimated for the imbalance, liquidation and awareness regimes, respectively. Thus, the findings, i.e. imbalance and liquidation regimes’ identification and their average durations, show that the Naira in the foreign exchange market is not favourable for investors to trade. The study recommends that the Nigerian government should direct more efforts towards improving the performance of the Naira in the foreign exchange market to make the market more favourable for investors. Specifically, the CBN should develop new strategies towards tackling the behaviour of the Nigerian exchange rate when in a liquidation state.