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This paper presents a rule for foreign exchange interventions (FXI), designed to preserve financial stability in floating exchange rate arrangements. The FXI rule addresses a market failure: the absence of hedging solution for tail exchange rate risk in the market (i.e. high volatility). Market impairment or overshoot of exchange rate between two equilibria could generate high volatility and threaten financial stability due to unhedged exposure to exchange rate risk in the economy. The rule uses the concept of Value at Risk (VaR) to define FXI triggers. While it provides to the market a hedge against tail risk, the rule allows the exchange rate to smoothly adjust to new equilibria. In addition, the rule is budget neutral over the medium term, encourages a prudent risk management in the market, and is more resilient to speculative attacks than other rules, such as fixed-volatility rules. The empirical methodology is backtested on Banco Mexico’s FXIs data between 2008 and 2016.
Banks and Banking --- Econometrics --- Finance: General --- Foreign Exchange --- Central Banks and Their Policies --- Financial Forecasting and Simulation --- Time-Series Models --- Dynamic Quantile Regressions --- Dynamic Treatment Effect Models --- Diffusion Processes --- Financing Policy --- Financial Risk and Risk Management --- Capital and Ownership Structure --- Value of Firms --- Goodwill --- International Financial Markets --- Currency --- Foreign exchange --- Econometrics & economic statistics --- Financial services law & regulation --- Finance --- Exchange rates --- Vector autoregression --- Exchange rate risk --- Currency markets --- Financial risk management --- Foreign exchange market --- Mexico
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This paper presents a rule for foreign exchange interventions (FXI), designed to preserve financial stability in floating exchange rate arrangements. The FXI rule addresses a market failure: the absence of hedging solution for tail exchange rate risk in the market (i.e. high volatility). Market impairment or overshoot of exchange rate between two equilibria could generate high volatility and threaten financial stability due to unhedged exposure to exchange rate risk in the economy. The rule uses the concept of Value at Risk (VaR) to define FXI triggers. While it provides to the market a hedge against tail risk, the rule allows the exchange rate to smoothly adjust to new equilibria. In addition, the rule is budget neutral over the medium term, encourages a prudent risk management in the market, and is more resilient to speculative attacks than other rules, such as fixed-volatility rules. The empirical methodology is backtested on Banco Mexico’s FXIs data between 2008 and 2016.
Mexico --- Banks and Banking --- Econometrics --- Finance: General --- Foreign Exchange --- Central Banks and Their Policies --- Financial Forecasting and Simulation --- Time-Series Models --- Dynamic Quantile Regressions --- Dynamic Treatment Effect Models --- Diffusion Processes --- Financing Policy --- Financial Risk and Risk Management --- Capital and Ownership Structure --- Value of Firms --- Goodwill --- International Financial Markets --- Currency --- Foreign exchange --- Econometrics & economic statistics --- Financial services law & regulation --- Finance --- Exchange rates --- Vector autoregression --- Exchange rate risk --- Currency markets --- Financial risk management --- Foreign exchange market
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We study the impact of technology on the reaction of financial markets to information, focusing on the foreign exchange market. We contrast the “thin-skinned” view that technological improvements cause markets to react more to new information with the “thick-skinned” view that they react less. We pinpoint exogenous technological changes using the timing of the connection of countries via the submarine fiber-optic cables used for electronic trading. Cable connections dampen the response of exchange rates to macroeconomic news, consistent with the “thick-skinned” hypothesis. This is in line with the view that technology eases access to information and reduces trend-following behavior. According to our estimates, cable connections reduce the reaction of exchange rates to U.S. monetary policy news by 50 to 80 percent.
Economic development. --- Development, Economic --- Economic growth --- Growth, Economic --- Economic policy --- Economics --- Statics and dynamics (Social sciences) --- Development economics --- Resource curse --- Banks and Banking --- Finance: General --- Foreign Exchange --- Money and Monetary Policy --- International Finance: General --- Interest Rates: Determination, Term Structure, and Effects --- Monetary Systems --- Standards --- Regimes --- Government and the Monetary System --- Payment Systems --- International Financial Markets --- Currency --- Foreign exchange --- Banking --- Monetary economics --- Finance --- Central bank policy rate --- Currencies --- Exchange rates --- Currency markets --- Financial services --- Money --- Financial markets --- Interest rates --- Foreign exchange market --- United States
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We analyze the impact of technology on production and trade in services, focusing on the foreign exchange market. We identify exogenous technological changes by the connection of countries to submarine fiber-optic cables used for electronic trading, but which were not laid for purposes related to the foreign exchange market. We estimate the impact of cable connections on the share of offshore foreign exchange transactions. Cable connections between local markets and matching servers in the major financial centers lower the fixed costs of trading currencies and increase the share of currency trades occurring onshore. At the same time, however, they attenuate the effect of standard spatial frictions such as distance, local market liquidity, and restrictive regulations that otherwise prevent transactions from moving to the major financial centers. Our estimates suggest that the second effect dominates. Technology dampens the impact of spatial frictions by up to 80 percent and increases, in net terms, the share of offshore trading by 21 percentage points. Technology also has economically important implications for the distribution of foreign exchange transactions across financial centers, boosting the share in global turnover of London, the world's largest trading venue, by as much as one-third.
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This paper investigates inflation risks for 12 Middle East and Central Asia countries, with an equal share of commodities exporters and importers. The empirical strategy leverages the recent developments in the estimation of macroeconomic risks and uses a semi-parametric approach that balances well flexibility and robustness for density projections. The paper uncovers interesting features of inflation dynamics in the region, including the role of backward versus forward-looking drivers, non-linearities, and heterogeneous and delayed exchange rate pass-through. The results have important implications for the conduct of monetary policy and central bank communication in the Middle East and Central Asia and emerging markets in general.
Macroeconomics --- Economics: General --- Inflation --- Production and Operations Management --- Foreign Exchange --- Forecasting and Other Model Applications --- Criteria for Decision-Making under Risk and Uncertainty --- Price Level --- Deflation --- Monetary Policy --- Commodity Markets --- Macroeconomics: Production --- Economic & financial crises & disasters --- Economics of specific sectors --- Currency --- Foreign exchange --- Prices --- Commodity prices --- Output gap --- Production --- Exchange rates --- Consumer price indexes --- Currency crises --- Informal sector --- Economics --- Economic theory --- Price indexes --- Iran, Islamic Republic of
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This paper investigates inflation risks for 12 Middle East and Central Asia countries, with an equal share of commodities exporters and importers. The empirical strategy leverages the recent developments in the estimation of macroeconomic risks and uses a semi-parametric approach that balances well flexibility and robustness for density projections. The paper uncovers interesting features of inflation dynamics in the region, including the role of backward versus forward-looking drivers, non-linearities, and heterogeneous and delayed exchange rate pass-through. The results have important implications for the conduct of monetary policy and central bank communication in the Middle East and Central Asia and emerging markets in general.
Iran, Islamic Republic of --- Macroeconomics --- Economics: General --- Inflation --- Production and Operations Management --- Foreign Exchange --- Forecasting and Other Model Applications --- Criteria for Decision-Making under Risk and Uncertainty --- Price Level --- Deflation --- Monetary Policy --- Commodity Markets --- Macroeconomics: Production --- Economic & financial crises & disasters --- Economics of specific sectors --- Currency --- Foreign exchange --- Prices --- Commodity prices --- Output gap --- Production --- Exchange rates --- Consumer price indexes --- Currency crises --- Informal sector --- Economics --- Economic theory --- Price indexes
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This paper examines the evolving importance of common global components underlying domestic financial conditions. It develops financial conditions indices (FCIs) that make it possible to compare a large set of advanced and emerging market economies. It finds that a common component, “global financial conditions,” accounts for about 20 percent to 40 percent of the variation in countries’ domestic FCIs, with notable heterogeneity across countries. Its importance, however, does not seem to have increased markedly over the past two decades. Global financial conditions loom large, but evidence suggests that, on average, countries still appear to hold considerable sway over their own financial conditions—specifically, through monetary policy. Nevertheless, the rapid speed at which foreign shocks affect domestic financial conditions may also make it difficult to react in a timely and effective manner, if deemed necessary.
Econometrics --- Finance: General --- Foreign Exchange --- Macroeconomics --- Financial Markets and the Macroeconomy --- Business Fluctuations --- Cycles --- General Financial Markets: General (includes Measurement and Data) --- Time-Series Models --- Dynamic Quantile Regressions --- Dynamic Treatment Effect Models --- Diffusion Processes --- Finance --- Currency --- Foreign exchange --- Econometrics & economic statistics --- Financial sector development --- Financial conditions index --- Emerging and frontier financial markets --- Exchange rate flexibility --- Vector autoregression --- Financial markets --- Financial sector policy and analysis --- Econometric analysis --- Financial services industry --- Business cycles --- United States
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In this paper we propose a novel approach to obtain the predictive density of global GDP growth. It hinges upon a bottom-up probabilistic model that estimates and combines single countries’ predictive GDP growth densities, taking into account cross-country interdependencies. Speci?cally, we model non-parametrically the contemporaneous interdependencies across the United States, the euro area, and China via a conditional kernel density estimation of a joint distribution. Then, we characterize the potential ampli?cation e?ects stemming from other large economies in each region—also with kernel density estimations—and the reaction of all other economies with para-metric assumptions. Importantly, each economy’s predictive density also depends on a set of observable country-speci?c factors. Finally, the use of sampling techniques allows us to aggregate individual countries’ densities into a world aggregate while preserving the non-i.i.d. nature of the global GDP growth distribution. Out-of-sample metrics con?rm the accuracy of our approach.
Macroeconomics --- Personal Finance -Taxation --- Hypothesis Testing --- General Aggregative Models: Forecasting and Simulation --- Prices, Business Fluctuations, and Cycles: Forecasting and Simulation --- Financial Crises --- Personal Income and Other Nonbusiness Taxes and Subsidies --- Economic & financial crises & disasters --- Public finance & taxation --- Global financial crisis of 2008-2009 --- Personal income tax --- Financial crises --- Taxes --- Global Financial Crisis, 2008-2009 --- Income tax --- United States
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In this paper we propose a novel approach to obtain the predictive density of global GDP growth. It hinges upon a bottom-up probabilistic model that estimates and combines single countries’ predictive GDP growth densities, taking into account cross-country interdependencies. Speci?cally, we model non-parametrically the contemporaneous interdependencies across the United States, the euro area, and China via a conditional kernel density estimation of a joint distribution. Then, we characterize the potential ampli?cation e?ects stemming from other large economies in each region—also with kernel density estimations—and the reaction of all other economies with para-metric assumptions. Importantly, each economy’s predictive density also depends on a set of observable country-speci?c factors. Finally, the use of sampling techniques allows us to aggregate individual countries’ densities into a world aggregate while preserving the non-i.i.d. nature of the global GDP growth distribution. Out-of-sample metrics con?rm the accuracy of our approach.
United States --- Macroeconomics --- Personal Finance -Taxation --- Hypothesis Testing --- General Aggregative Models: Forecasting and Simulation --- Prices, Business Fluctuations, and Cycles: Forecasting and Simulation --- Financial Crises --- Personal Income and Other Nonbusiness Taxes and Subsidies --- Economic & financial crises & disasters --- Public finance & taxation --- Global financial crisis of 2008-2009 --- Personal income tax --- Financial crises --- Taxes --- Global Financial Crisis, 2008-2009 --- Income tax
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The growth-at-risk (GaR) framework links current macrofinancial conditions to the distribution of future growth. Its main strength is its ability to assess the entire distribution of future GDP growth (in contrast to point forecasts), quantify macrofinancial risks in terms of growth, and monitor the evolution of risks to economic activity over time. By using GaR analysis, policymakers can quantify the likelihood of risk scenarios, which would serve as a basis for preemptive action. This paper offers practical guidance on how to conduct GaR analysis and draws lessons from country case studies. It also discusses an Excel-based GaR tool developed to support the IMF’s bilateral surveillance efforts.
Accounting --- Macroeconomics --- Money and Monetary Policy --- Real Estate --- General Aggregative Models: Forecasting and Simulation --- International Business Cycles --- Monetary Growth Models --- Price Level --- Inflation --- Deflation --- Housing Supply and Markets --- Public Administration --- Public Sector Accounting and Audits --- Monetary Policy, Central Banking, and the Supply of Money and Credit: General --- Property & real estate --- Financial reporting, financial statements --- Monetary economics --- Growth-at-risk assessment --- Asset prices --- Housing prices --- Financial statements --- Credit aggregates --- Financial sector policy and analysis --- Prices --- Public financial management (PFM) --- Money --- Financial risk management --- Housing --- Finance, Public --- Credit --- Peru
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