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The impact of federal reserve intervention on exchange rate volatility: evidence from the futures markets

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  • Sanjay Ramchander
  • R. Raymond Sant

Abstract

The collapse of Bretton Woods or the fixed exchange rate system in 1973, along with the coinciding growth in global trade, and greater mobility of capital have all contributed to an increase in exchange rate volatility. Concerns about exchange rate levels and volatility have prompted central banks to actively intervene in foreign currency markets from time to time. This paper presents an empirical investigation of the relationship between central bank intervention actions and currency volatility. This paper is distinguished from earlier studies by employing expectation-based information contained in the currency futures prices to estimate conditional volatility in the USUS$/DM and US$/¥ returns, and by incorporating the simultaneity of the relationship between the Fed's intervention operation and exchange rate volatility into the model. Results suggest a lack of relationship between Fed's intervention activity and the US$/DM conditional volatility during the 1985-1993 period. However, Fed intervention is associated with negative changes in the US$/¥ volatility during the 1985 to 1993 period as a whole, and specifically during the 1 January, 1985 to 21 February, 1987 Plaza period and the 21 February, 1987 to 31 December, 1989 Louvre period. Furthermore, the results document a strong feedback effect (bidirectional causality) between US$/¥ volatility and intervention actions. During the post-Louvre period (1 January, 1990 to 31 December, 1993), it is found that the Fed's intervention led to an increase in the volatility of US$¥, without a corresponding feedback relationship. The sign reversal is attributed to the breakdown of the Louvre Accord and the mixed nature of monetary policy signals given during this period.

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  • Sanjay Ramchander & R. Raymond Sant, 2002. "The impact of federal reserve intervention on exchange rate volatility: evidence from the futures markets," Applied Financial Economics, Taylor & Francis Journals, vol. 12(4), pages 231-240.
    • Handle: RePEc:taf:apfiec:v:12:y:2002:i:4:p:231-240
    DOI: 10.1080/09603100010005285
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    References listed on IDEAS

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    1. Dominguez, Kathryn M & Frankel, Jeffrey A, 1993. "Does Foreign-Exchange Intervention Matter? The Portfolio Effect," American Economic Review, American Economic Association, vol. 83(5), pages 1356-1369, December.
    2. Branson, William H. & Henderson, Dale W., 1985. "The specification and influence of asset markets," Handbook of International Economics, in: R. W. Jones & P. B. Kenen (ed.), Handbook of International Economics, edition 1, volume 2, chapter 15, pages 749-805, Elsevier.
    3. Kathryn M. Dominguez, 1993. "Does Central Bank Intervention Increase the Volatility of Foreign Exchange Rates?," NBER Working Papers 4532, National Bureau of Economic Research, Inc.
    4. Edison, H.J., 1993. "The Effectiveness of Central-Bank Intervention: A Survey of the Litterature after 1982," Princeton Studies in International Economics 18, International Economics Section, Departement of Economics Princeton University,.
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    Cited by:

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    2. Simatele, Munacinga C H, 2004. "Financial sector reforms and monetary policy reforms in Zambia," MPRA Paper 21575, University Library of Munich, Germany.
    3. Kin-Yip Ho & Albert K Tsui, 2008. "Volatility Dynamics in Foreign Exchange Rates : Further Evidence from the Malaysian Ringgit and Singapore Dollar," Finance Working Papers 22571, East Asian Bureau of Economic Research.
    4. Muteba Mwamba, John & Dube, Sandile, 2014. "The impact of exchange rate volatility on international trade between South Africa, China and USA: The case of the manufacturing sector," MPRA Paper 64389, University Library of Munich, Germany.
    5. Mauricio Lopera Castano & Ramón Javier Mesa Callejas & Sergio Iván Restrepo Ochoa & Charle Augusto Londono Henao, 2013. "Modelando el esquema de intervenciones del tipo de cambio para Colombia. una aplicación empírica de la técnica de regresión del cuantil bajo redes neu," Revista Cuadernos de Economia, Universidad Nacional de Colombia, FCE, CID, May.
    6. Francisco Ledesma-Rodriguez & Manuel Navarro-Ibanez & Jorge Perez-Rodriguez & Simon Sosvilla-Rivero, 2011. "Implicit bands in the yen/dollar exchange rate," Applied Economics, Taylor & Francis Journals, vol. 43(10), pages 1241-1255.
    7. Ozge Akinci & Olcay Yucel Culha & Umit Ozlale & Gulbin Sahinbeyoğlu, 2006. "The effectiveness of foreign exchange interventions under a floating exchange rate regime for the Turkish economy: a post-crisis period analysis," Applied Economics, Taylor & Francis Journals, vol. 38(12), pages 1371-1388.

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