Foreign Exchange Market Intervention Research Articles

Monetary policy autonomy and foreign reserves accumulation in Brazil: a compensation view

Abstract During the 2000s, Brazil accumulated a substantial amount of foreign reserves through foreign exchange market interventions undertaken by its Central Bank. Mainstream economics considers such interventions a restriction to monetary policy autonomy. This article analyses the relationship between monetary policy autonomy and exchange rate regimes theoretically and empirically for the Brazilian economy. We argue that the compensation principle, as a direct derivation of the endogenous money approach, is an alternative to both the trilemma and dilemma views in the mainstream perspective. Then, we provide empirical evidence in favour of the compensation principle in the Brazilian economy by verifying the exogeneity of the interest rate and estimating a vector error-correction model (VECM) that indicates that the foreign reserves do not have a long-term effect on the monetary base, while they present a significant and large effect on the repos account. In line with the compensation view, we conclude that in the 2000s, Brazil had more monetary policy autonomy than conventional approaches would have suggested.

Imported or home grown? The 1992–3 EMS crisis

Using newly assembled data on foreign exchange market intervention, we construct a daily index of exchange market pressure during the 1992–3 crisis in the European Monetary System, allowing us to pinpoint when and where the crisis was most severe. Our analysis focuses on a neglected factor in the crisis: the role of the weak dollar in intra-EMS tensions. We provide new evidence of the contribution of a falling dollar-Deutschmark exchange rate to pressure on EMS currencies.

Effect of oil price volatility on the trade balance in sub‐Saharan Africa

AbstractCrude oil price volatility as an important driver of the trade balance of economies has been widely documented in the literature. However, studies on the effect of oil price volatility on the trade balance in sub‐Sahara Africa (SSA) are limited. In this paper, we explore the effect of crude oil price volatility on the trade balance across 34 SSA countries using Pooled Mean Group (PMG) and Common Correlated Effect Pooled Mean Group (CCEPMG) estimators for the period January 2004 to December 2017. We find that crude oil price volatility exerts a negative effect on the trade balance of SSA countries. We further demonstrate that inflation, interest rates and exchange rates are significant transmission channels for oil price volatility to impact trade balance. We suggest that policymakers hedge as well as adopt price‐smoothing schemes to minimise the volatility of oil prices on trade balance. Again, countries should adopt an inflation‐targeting regime to ensure the stability of the general price level. Finally, central banks of the respective countries should apply a combination of foreign exchange market interventions and interest rate changes to reduce the effect of oil price volatility on their trade balance when the exchange rate is taken into account.

Central bank securities and foreign exchange market intervention in a developing economy

AbstractThe Bank of Papua New Guinea has maintained an active policy of foreign exchange (FX) market intervention. This monetary tool is associated with a depreciating currency and a worsening shortage of foreign currencies in the domestic market, suggesting that at most the policy instrument leans against existing FX‐market pressure. However, the one‐sided sales of central bank securities (or bills) engender an appreciation of the rate and an easing of the shortage in the domestic FX market. Supported by empirical evidence, we demonstrate that the one‐sided sales of central bank bills perform like an instrument of monetary policy for FX‐market stability in the presence of persistent nonremunerated excess bank reserves.

Foreign exchange interventions under a minimum exchange rate regime and the Swiss franc

AbstractIn this paper, a structural model is proposed that allows monetary authorities to determine the size of foreign exchange market interventions that are expected to be necessary to implement a minimum exchange rate regime. An empirical application of the proposed model to the minimum exchange rate regime that the Swiss National Bank (SNB) implemented vis‐à‐vis the euro from September 2011 to January 2015 reveals that it is well suited to explain the actual size of these interventions and that, in January 2015, the SNB’s euro purchases might have been large without the abandonment of the minimum exchange rate regime, which is consistent with the official statements of the SNB in the aftermath of that episode.

Foreign Exchange Market Intervention and Exchange Rate Stability: An Empirical Anayisis for Nigeria

The essential roles played by exchange rate on general macroeconomic stability has attracted the Central Bank of Nigeria (CBN) to intervene in the foreign exchange market, in order to smoothen exchange rate volatility, among other goals. The study to examine the impact of foreign exchange market intervention on stability of exchange rate in Nigeria with a monthly time series data from 2000M1 to 2020M12. The research employs the use of Autoregressive Distributive Lag approach (ARDL) of analysis. The result indicates that the currency interventions policy of the CBN in Nigeria is effective and exerts significant impact on the exchange rate stability of Naira in both in the short and long-run within the period under investigation. We, therefor, recommend that the monetary authority should continue to employ the usage of stock of foreign reserves in supporting the exchange rate by increasing funding of the operations in foreign exchange market.

Imported or Home Grown? The 1992-3 EMS Crisis

Using newly assembled data on foreign exchange market intervention, we construct a daily index of exchange market pressure during the 1992-3 crisis in the European Monetary System. Using this index, we pinpoint when and where the crisis was most severe. Our analysis focuses on a neglected factor in the crisis: the role of the weak dollar in intra-EMS tensions. We provide new evidence of the contribution of a falling dollar-Deutschmark exchange rate to pressure on EMS currencies.

Imported or Home Grown? The 1992-3 EMS Crisis

Using newly assembled data on foreign exchange market intervention, we construct a daily index of exchange market pressure during the 1992-3 crisis in the European Monetary System. Using this index, we pinpoint when and where the crisis was most severe. Our analysis focuses on a neglected factor in the crisis: the role of the weak dollar in intra-EMS tensions. We provide new evidence of the contribution of a falling dollar-Deutschmark exchange rate to pressure on EMS currencies.

Foreign Exchange Interventions Under a One-sided Target Zone Regime and the Swiss Franc

From September 2011 to January 2015, the Swiss National Bank (SNB) implemented a minimum exchange rate regime (i.e. a one-sided target zone) vis-a-vis the euro to fight deflationary pressures in the aftermath of the Great Financial Crisis. During this period of unconventional monetary policy, the SNB faced mounting criticism from the media and the public on the sizable balance sheet risks that it was incurring. Motivated by this episode, I present a structural model embedded within the target zone framework developed by Krugman (1991) that allows monetary authorities to determine ex-ante the maximum size of foreign exchange market interventions that are expected to be necessary to implement and maintain a one-sided target zone. An empirical application of the proposed model to the aforementioned episode reveals that it is well suited to explain the actual size of these interventions and that, in January 2015, the SNB's euro purchases might indeed have been large without the abandonment of the minimum exchange rate regime, which is consistent with the official statements of the SNB in the aftermath of that episode.

Foreign Exchange Interventions Under a One-Sided Target Zone Regime and the Swiss Franc

From September 2011 to January 2015, the Swiss National Bank (SNB) implemented a minimum exchange rate regime (i.e. a one-sided target zone) vis-a-vis the euro to fight deflationary pressures in the aftermath of the Great Financial Crisis. During this period of unconventional monetary policy, the SNB faced mounting criticism from the media and the public on the sizable balance sheet risks that it was incurring. Motivated by this episode, I present a structural model embedded within the target zone framework developed by Krugman (1991) that allows monetary authorities to determine ex-ante the maximum size of foreign exchange market interventions that are expected to be necessary to implement and maintain a one-sided target zone. An empirical application of the proposed model to the aforementioned episode reveals that it is well suited to explain the actual size of these interventions and that, in January 2015, the SNB's euro purchases might indeed have been large without the abandonment of the minimum exchange rate regime, which is consistent with the official statements of the SNB in the aftermath of that episode.

환율과 경상수지의 구조적 변화와 정책방향 (Structural Factors Behind Foreign Exchange Rate and Current Account Balances and Policy Directions)

환율과 경상수지의 구조적 변화와 정책방향 (Structural Factors Behind Foreign Exchange Rate and Current Account Balances and Policy Directions)

Capital controls and foreign exchange market intervention

High level of capital controls and volatile exchange rates in developing countries are considered suboptimal in classical trilemma frameworks. The paper presents a New Keynesian small open economy model that assesses middle-ground policies, such as partial capital controls and managed exchange regimes. The paper introduces a policy-endogenous risk premium, which creates financial frictions; breaking exchange rate peg exposes foreign investors to exchange rate risk and even signals the country’s economic instability, and financial sector responds by raising the country’s exchange rate risk premium. Contrary to the classical theory, the results suggest that implementing both capital controls and managed exchange regimes can be optimal, while maintaining domestic monetary policy sovereignty.

Is there evidence of “fear of appreciation” in China’s foreign exchange market intervention?

ABSTRACTUsing the data after the exchange rate regime reform in July 2005, this paper systematically studied the issue whether China has conducted ‘fear of appreciation’ asymmetric intervention. The results show that China’s intervention is discontinuous and asymmetric, rather than oversimplified ‘fear of appreciation’. China has a target range with respect to exchange rate deviation, and most observations are concentrated in this range, in which the exchange rate deviation can be tolerated. Outside the target range, the width of the range suggests that the tolerance level for appreciation is much higher than that for depreciation, whereas the estimated coefficients show that the monetary authority responds more vigorously to substantial appreciation than to depreciation. In addition, it can be expected that with the marketization of RMB exchange rate, China’s intervention degree will further decline.

Impact of Exchange Rate Management on the Nigerian Economic Growth: Empirical Validation

Adewuyi, (2002). Balance of Payments Constraints and Growth Rate Differences under Alternative Police Regimes. Nigerian Institute of Social and Economic Research (NISER) Monograph Series No. 10, Ibadan, Nigeria. Adebiyi, M. A. (2007). An Evaluation of Foreign Exchange Intervention and Monetary Aggregates in Nigeria (1986-2003). The University of Munich Finance Journal, 4 (2),1-19. Aghin, P.; Bacchetta, P.; Ranciere, R. & Rogoff, K. (2006). Exchange rate volatility and productivity growth: The role of financial development. Journal of Monetary Economics, 56 (4), 494–51. Bonser-Neal, C. & Tanner, G. (1996). Central Bank Intervention and Volatility of Exchange Rates: Evidence from the Options Market. Journal of International Money and Finance, 18 (2), 23-45. Dominguez, K. (1990). Market Responses to Coordinated Central Bank Intervention. Carnegie Rochester Conference Series on Public Policy, 32 Dominguez, K. (1998). Central Bank Intervention and Exchange Rate Volatility. Journal of International and Finance, 15 (4). Dominguez, K & Frankel, J. A. (1993). Does Foreign Exchange Intervention matter? The Portfolio effect. American Economic Review, 83 (5), 231-259 Dubas, J.M., Lee, B.J., & Mark, N.C. (2005). Effective Exchange Rate Classifications and Growth. NBER Working Paper No. 11272 Frankel, J.A. ((1992). In search of the Exchange rate Premium: A Six-Currency Test assuming mean-variance optimization. Journal of International Money and Finance,1(2),19-32 Gosh, A. (1992). Is it Signinaling? Exchange Rate intervention and the Dollar Deutssche-Mark Rate. Journal of International Economics, 32(4), 45-67 Granger, C.W.J. & Newbold, P. 1974). Spurious regression in Econometrics, Journal of Econometrics 2 (4) 111-120. Harris R.G. (2002). New Economy and the Exchange Rate Regime. Centre for International Economics Studies, Discussion paper, No 111. Humpage, O. (1989). On the Effectiveness of Foreign Exchange Market Intervention. Federal Reserve Bank of Cleveland. Kaminsky, G & Lewis, K (1996). Does Foreign Exchange Intervention signal future monetary policy? Journal of Monetary Economics, 37(2), 66-89 Nwankwo (G.O) (1980). Money and capital markets in Nigeria Today. University of Lagos Press, Nigeria. Odusola A.F. and Akinlo, A.E. (2001). Output, Inflation, and Exchange Rate in Developing Countries: An Application to Nigeria. Developing Economies, 39(2). Oloyede, J. A. (2002). Principles of International Finance. Forthright Educational Publishers, Lagos. Rano-Aliyu S.U. (2009). Impact of Oil Price Shock and Exchange Rate Volatility on Economic Growth in Nigeria: An Empirical Investigation. Research Journal of International Studies 10(4) 23-45. Rognoff, K. (1984). The effects of sterilized intervention: An analysis of weekly data. Journal of Monetary Economics, 2 (2), 14-34. Sarno, L. & Taylor, M. P. (2001). Official intervention in the Foreign Exchange Market: Is it effective, and if so, how does it work? Journal of Economic Literature, 3(1), 39-56. Simatele, M.C.H.(2003). Financial Sector Reforms and Monetary Policy in Zambia. Ph.D Dissertation, Economics Studies, Department of Economics, School of Economics and Commercial Law, Goteborg University. Unugbro, A.O (2007). The Impact of Exchange Rate Fluctuation on Capital Inflow: The Nigerian Experience. The Nigeria Academic Journal of Social Sciences, 6(4),1-21

The effectiveness of foreign exchange intervention in India : Evidence from time-series approach

Central bank has a vital responsibility in stabling the exchange rate and dampening the market uncertainties for sustainable economic growth. This study inspects the aspect of RBI’s foreign exchange market intervention operation and its impact on the exchange rate level and volatility through time series methodology. GARCH (1,1) model with weekly data from April 2002 to June 2018 is used to explore the issue. The study discovered evidence for ‘leaning against the wind’ policy and provide evidence for curbing the market uncertainty. Similarly, it asserts that RBI’s action to inject foreign currency influenced the exchange rate but accelerated market uncertainty. Contrary to that RBI’s action to absorb excess supply by intervention curbed market uncertainty but failed to prevent appreciation pressure. Significance of good news points out its ability to appreciate rupee and curb the market uncertainty. The results strongly support the necessity of intervention and capital control for ensuring the sustainable growth of the foreign exchange market without uncertainty.

Exchange Rate Volatility, Foreign Exchange Market Intervention and Asymmetric Preferences

Exchange Rate Volatility, Foreign Exchange Market Intervention and Asymmetric Preferences

The Struggle Toward Macroeconomic Stability: An Analytical Essay

This essay offers an economic-history perspective of the long struggle toward macroeconomic stability in Israel. The purpose is to provide a broad analytical overview of major exogenous shocks and shifts in macroeconomic policy and institutions in Israel from the 1977–85 great inflation to the global financial crisis, and the effects of those shifts on long-term growth, inflation, the business cycle, the flattening of the Phillips curve, and other related economic developments. The paper addresses three main topics. The first one is the political economics of the hyperinflation crisis, its crushing by a national-unity coalition, and its impact on subsequent reform of financial and monetary institutions. Inflation’s history points to the weak foundation of the Modern Monetary Theory, or MMT, which argues that a country borrowing in its own currency can finance fiscal stimulus by printing money in a persistent way. Second is the impact of globalization on economic activity, inflation, and the Phillips curve during the “great Moderation” period. The third is Israel’s relatively robust performance during the 2008 global crisis, the role of the financial sector stance, and the central bank foreign exchange market intervention policies.

Monetary Regime Choice and Optimal Credit Rationing at the Official Rate: The Case of Russia

ABSTRACTStabilizing monetary policy in a small open economy is constrained by the open economy trilemma. In this paper, we investigate whether foreign exchange market interventions and the Central Bank’s credit rationing at the official rate (CROR) may soften this constraint and improve the results of monetary policy for different monetary regimes. We construct a dynamic stochastic general equilibrium (DSGE) model appropriate for analyzing the forward-looking behavior of households facing non-zero probabilities of losing access to financial market and CROR. We have found significant credit rationing in the quarterly Russian data of 2001:Q1–2014:Q2. The probability of losing access to financial market and the probability of CROR are estimated as 22% and 66%, respectively. Using Russian data of 2001:Q1–2014:Q2 we demonstrate that CROR provoked forward-looking activity in financial market, which led to more Ruble devaluation in the crises of 2008–2009. It improved poor countercyclical performance of two Russian monetary policy rules, whereas made small effect on welfare. Welfare maximization exercises reveal a tradeoff between low-inflation and high-welfare solutions and favor of a floating exchange rate regime. We found the optimal value of the probability of CROR in both exchange rate-based and Taylor rule-based models but resulting improvement in welfare is very small.

Foreign exchange market intervention and asymmetric preferences

Central banks in many emerging market economies intervene in currency markets to mitigate volatility and counter appreciation/depreciation pressure. This paper investigates whether central banks in twenty four emerging economies are “leaning against the wind” in their intervention strategies, whether they have an asymmetric response to exchange rate movements, and whether the response changes after the Global Financial Crisis. Our empirical investigation finds solid evidence that they prefer to dampen appreciation pressures more substantially than depreciation pressures, even after the crisis.

External shocks, financial volatility and reserve requirements in an open economy

The performance of a simple, countercyclical reserve requirement rule is studied in a dynamic stochastic model of a small open economy with financial frictions, imperfect capital mobility, a managed float regime, and sterilized foreign exchange market intervention. Bank funding sources, domestic and foreign, are imperfect substitutes. The model is calibrated and used to study the effects of a temporary drop in the world risk-free interest rate. Consistent with stylized facts, the shock triggers an expansion in domestic credit and activity, asset price pressures, and a real appreciation. An optimal, credit-based reserve requirement rule, based on minimizing a composite loss function, helps to mitigate both macroeconomic and financial volatility—with the latter defined both in terms of a narrow measure based on the credit-to-output ratio, the ratio of capital flows to output, and interest rate spreads, and a broader measure that includes real asset prices as well. Greater reliance on sterilization implies a less aggressive optimal reserve requirements rule, implying that the two instruments are partial substitutes.