Today, we present a guest post written by Jeffrey Frankel, Harpel Professor at Harvard’s Kennedy School of Government, and formerly a member of the White House Council of Economic Advisers. A shorter version appeared at Project Syndicate.
Category Archives: exchange rates
Long Horizon Unbiasedness, Updated
Some key interest differentials, through March:
The Dollar as a Reserve Currency
Still number 1 (through 2021Q4), with rising shares to … AUD, CAD, and the CNY…
“The New Fama Puzzle”
or “Do you really know what Uncovered Interest Parity is, and whether it holds?” Published as of today in IMF Economic Review, with coauthored with Laurent Ferrara (SKEMA Business School), Matthieu Bussière (Banque de France), and Jonas Heipertz (Columbia Business School):
The Ruble vs. Exchange Market Pressure in Russia
The value of the ruble has returned to pre-invasion levels [1]. But what I am more concerned about is exchange market pressure. And there, we are at sea.
Russian Exchange Rate Pass Through into Consumer Prices
For Russia, it’s maybe 10%-17% for 1 quarter, 50%-70% for 4 quarters.
Russia EMP Watch
One way to assess external financial stress is to look at exchange market pressure (EMP) – the change in the exchange rate, change in reserves, and change in interest rates, possibly weighted by inverse of standard deviations. or otherwise (see e.g., Patnaik, et al. (2017) for several different versions).
US Inflation and Chinese Imports
One reason why inflation exceeded my estimates from earlier this year is the price of imports. Since 2020M02, goods import prices from China have risen 5.3%, after declining 5.8% over the preceding six years. The dollar depreciated by 9.4% over the same period, implying a exchange rate pass-through coefficient of 0.56.
Do Exchange Rate Movements Equalize Yields?
Fama (JME, 1984), and Tryon (1979) demonstrated that changes in the exchange rate do not equal the forward premium, in what came to be known as the forward premium puzzle. Since the forward premium equals the interest differential in the absence of current and incipient capital controls and in the absence of default risk — this finding is equivalent to the result that interest rates, after accounting for exchange rate changes, are not equalized on average.
In other words, if the yield on the US default-risk-free bond is 2% and the yield on a UK default-risk-free bond is 5%, then the US dollar does not on average appreciate by 3% against the pound in order to equalize returns. This finding could be explained, for instance, by the presence of a time-varying exchange risk premium on pound sterling assets (vs. dollar assets); however, it’s not been easy to find robust evidence of determinants of such a time varying premium.
While this puzzle has largely persisted in the ensuing 25 years, it seemingly disappeared during and after the global financial crisis — until re-appearing in recent years.
“Do Central Banks Rebalance Their Currency Shares?”
Some do; some don’t. Now published, an article in Journal of International Money and Finance (updated) by me, Hiro Ito, and Robert McCauley answering this question. From the abstract: