Explaining the dollar/euro exchange rate: the role of policy uncertainty, asymmetric information, and hedging opportunities

Many observers were surprised by the depreciation of the euro after its launch in 1999. Handicapped by a short sample, explanations tended to appeal to anecdotes and lessons learned from the experiences of other currencies. Now sample sizes are just becoming large enough to permit reasonable empirical analyses. This paper begins with a theoretical model addressing transaction costs of trading the euro. The model of pre- and post-euro foreign exchange trading explains wider spreads on the euro as a result of three possible causes: a reduction in hedging opportunities due to the elimination of the legacy currencies, policy uncertainty on the part of the ECB, and asymmetric information due to some traders having prior knowledge of ECB policies. However, even informal empirical evidence tends to reject the hypothesis that spreads were larger on the euro than the mark for all but the first few months. This seems like an unlikely candidate to explain euro depreciation over the prolonged period observed. After addressing spreads, the model is turned toward an explanation of the exchange rate level. By specializing the fundamentals considered to the euro-area inflation rate, the model is structured toward the dynamics of learning about ECB policy with regard to inflation. While a stated target inflation rate of 2 percent existed, it may be that market participants had to be convinced that the ECB would, indeed, generate low and stable inflation. The theory motivates an empirical model of Bayesian updating related to market participants learning about the underlying inflation process under the ECB regime. With a prior distribution drawn from the pre-euro EMS experience and updating based upon the realized experience each month following the introduction of the euro, the evidence suggests that it was not until the fall of 2000 that the market assessed a greater than 50 percent probability that the inflation process had changed to a new regime. From this point on, trend depreciation of the euro ends and further increases in the probability of the new inflation process are associated with euro appreciation.euro, foreign exchange, Bayesian learning

Japan's Big Bang and the Transformation of Financial Markets

A first step in the 'big bang' markets was the deregulation of the foreign exchange market on April 1, 1998. This paper examines how the bid-ask spread and conditional volatility in the yen/dollar foreign exchange market changed around the time of the deregulation. Intra-day data are analyzed with the following results: (1) Holding constant the effects of volume and volatility, the deregulation was associated with a convergence of Japanese quoted spreads toward those of other banks. (2) Modeling the persistence in volatility reveals that deregulation lowered conditional volatility.

The Dark Side of International Cross-Listing: Effects on Rival Firms at Home

We analyze the stock price impact of firms’ U.S. cross-listing on home-market rival firms. Using an empirical event study approach we find negative cumulative average abnormal returns for the rival firms. The evidence suggests that the dominant effect is that investors see rivals as at a relative disadvantage to the listing firm. As firms cross-list in the US and commit to the increased disclosure and investor protection associated with the US listing, they are better able to take advantage of growth opportunities relative to their non cross-listing counterparts, and this results in negative spillover effects on rival firms.cross-listings, rival firms, growth opportunities

The evolving role and definition of the federal funds rate in the conduct of U.S. monetary policy

Over the past twenty years, the federal funds rate has evolved from being an intermediate target or indicator variable in discussions of monetary policy to the Federal Reserve’s (exogenous) policy instrument. How the funds rate is characterized has important implications for modeling, particularly in settings such as the popular Taylor Rule. Crucially, however, little investigation has been done to examine whether the funds rate meets the conditions one would require for an instrument of policy. This paper offers empirical evidence on the relationships among the federal funds rate, variables that might influence its behavior and variables of interest to monetary policy.federal funds rate; monetary policy; causality tests; reserves

Phase variation and the Hin protein: in vivo activity measurements, protein overproduction, and purification

The alternate expression of the Salmonella flagellin genes H1 and H2 is controlled by the orientation of a 995-base-pair invertible segment of DNA located at the 5' end of the H2 gene. The hin gene, which is encoded within the invertible region, is essential for the inversion of this DNA segment. We cloned the hin gene into Escherichia coli and placed it under the control of the PL promoter of bacteriophage lambda. These cells overproduced the Hin protein. In vivo inversion activity was measured by using a recombinant lambda phage which contains the H2 and lacZ genes under the control of the invertible region. Using this phage, we showed that the amount of inversion activity is proportional to the amount of Hin protein in the cell. An inactive form of the protein was purified by using the unusual solubility properties of the overproduced protein. The amino acid composition of the protein agreed with the DNA sequence of the hin gene. Antibodies were made to the isolated protein. These antibodies cross-reacted with two other unidentified E. coli proteins

Sequential Quantiles via Hermite Series Density Estimation

Sequential quantile estimation refers to incorporating observations into quantile estimates in an incremental fashion thus furnishing an online estimate of one or more quantiles at any given point in time. Sequential quantile estimation is also known as online quantile estimation. This area is relevant to the analysis of data streams and to the one-pass analysis of massive data sets. Applications include network traffic and latency analysis, real time fraud detection and high frequency trading. We introduce new techniques for online quantile estimation based on Hermite series estimators in the settings of static quantile estimation and dynamic quantile estimation. In the static quantile estimation setting we apply the existing Gauss-Hermite expansion in a novel manner. In particular, we exploit the fact that Gauss-Hermite coefficients can be updated in a sequential manner. To treat dynamic quantile estimation we introduce a novel expansion with an exponentially weighted estimator for the Gauss-Hermite coefficients which we term the Exponentially Weighted Gauss-Hermite (EWGH) expansion. These algorithms go beyond existing sequential quantile estimation algorithms in that they allow arbitrary quantiles (as opposed to pre-specified quantiles) to be estimated at any point in time. In doing so we provide a solution to online distribution function and online quantile function estimation on data streams. In particular we derive an analytical expression for the CDF and prove consistency results for the CDF under certain conditions. In addition we analyse the associated quantile estimator. Simulation studies and tests on real data reveal the Gauss-Hermite based algorithms to be competitive with a leading existing algorithm.Comment: 43 pages, 9 figures. Improved version incorporating referee comments, as appears in Electronic Journal of Statistic

The Crisis in the Foreign Exchange Market

The financial crisis of 2007-2008 had major implications for the foreign exchange market. We review events and implications for exchange rates, volatility, returns to currency investing, and transaction costs. This “blow-by-blow” narrative is intended to be a resource for researchers seeking a comprehensive review of the “what, why and when” of the financial crisis in terms of foreign exchange market dynamics. An implementable financial stress index (FSI) is created and then used to illustrate the dramatic nature of the current crisis compared to earlier crises. We also examine how the global FSI might have been used to condition the exposure to the carry trade (long high interest rate currencies, short low interest rate currencies) and we show that such an index has potential value in protecting a portfolio against loss during periods of stress, although this result is subject to the important caveats of controlling for transaction costs and timely recognition of the change in regime.financial crisis, foreign exchange, exchange rates, transaction costs

Exchange Rate Management in Emerging Markets: Intervention via an Electronic Limit Order Book

This paper describes and analyzes the implementation of a crawling exchange rate band on an electronic trading platform. The placement of limit orders at the central bank’s target rate serves as a credible policy statement that may coordinate beliefs of market participants. We find for our sample that intervention increases exchange rate volatility (and spread) for the next minutes but that intervention days show a lower degree of volatility (and spread) than non-intervention days. We also show for intraday data that the price impact of interbank order flow is smaller on intervention days than on non-intervention days. These stabilizing effects, however, rely on the conditions of large currency reserves and the existence of capital controls; an electronic market seems to support this goal.exchange rates, intervention, microstructure

Axisymmetric shell analysis of the space shuttle solid rocket booster field joint

The Space Shuttle Challenger (STS 51-L) accident led to an intense investigation of the structural behavior of the solid rocket booster (SRB) tang and clevis field joints. Results are presented of axisymmetric shell analyses that parametrically assess the structural behavior of SRB field joints subjected to quasi-steady-state internal pressure loading for both the original joint flown on mission STS 51-L and the redesigned joint flown for the first time after the STS 51-L accident on the Space Shuttle Discovery. Discussion of axisymmetric shell modeling issues and details is presented and a generic method for simulating contact between adjacent shells of revolution is described. Results are presented that identify the performance trends of the joints for a wide range of joint parameters. An important finding is that the redesigned joint exhibits significantly smaller O-ring gap changes and much less sensitivity to joint clearances than the original joint. For a wide range of joint parameters, the result presented indicate that the redesigned joint provides a much better pressure seal than the original joint