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Microstructure of Foreign Exchange Market in Croatia

Author

Listed:
  • Tomislav Galac

    (The Croatian National Bank, Croatia)

  • Ante Burić
  • Ivan Huljak

    (The Croatian National Bank, Croatia)

Abstract

This paper presents the results of the first analysis of the Croatian FX market microstructure. It focuses on the investigation of correlations between trading volume, exchange rate volatility and bid-ask spreads in the market for the Croatian domestic currency – the kuna. The analysis suggests that there is a positive correlation between unexpected volume and unexpected volatility in the kuna spot market as well as a negative correlation between expected volume and unexpected volatility, both as predicted by theory. In the context of recent events in Croatia, it seems very likely that both results are an expected consequence of the flow of macroeconomic and political indicators related to the speed of Croatia’s EU accession. The analysis also suggests a weak positive correlation between expected volatility and the spread in the kuna spot market and a strong negative correlation between the spread and the expected trading volume. In the case of expected trading volume, this finding supports the economies of scale explanation of spread reduction due to an increase in market liquidity, while the positive correlation between the spread and the expected volatility supports the inventory-cost explanation of bid-ask spread determination. Both results have direct consequences for the central bank policymaking since the central bank is almost the sole regulator of the Croatian foreign exchange market.

Suggested Citation

  • Tomislav Galac & Ante Burić & Ivan Huljak, 2006. "Microstructure of Foreign Exchange Market in Croatia," Working Papers 15, The Croatian National Bank, Croatia.
    • Handle: RePEc:hnb:wpaper:15
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    File URL: http://www.hnb.hr/repec/hnb/wpaper/pdf/w-015.pdf
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    References listed on IDEAS

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    1. Martin D.D. Evans & Richard K. Lyons, 2017. "Order Flow and Exchange Rate Dynamics," World Scientific Book Chapters, in: Studies in Foreign Exchange Economics, chapter 6, pages 247-290, World Scientific Publishing Co. Pte. Ltd..
    2. Hartmann, Philipp, 1999. "Trading volumes and transaction costs in the foreign exchange market: Evidence from daily dollar-yen spot data," Journal of Banking & Finance, Elsevier, vol. 23(5), pages 801-824, May.
    3. Geir H. Bjønnes & Dagfinn Rime & Haakon O. Aa. Solheim, 2002. "Volume and Volatility in the FX-Market: Does it matter who you are?," CESifo Working Paper Series 786, CESifo.
    4. Gabriele Galati, 2000. "Trading volumes, volatility and spreads in foreign exchange markets: evidence from emerging market countries," BIS Working Papers 93, Bank for International Settlements.
    5. Otavio De Medeiros, 2005. "Order Flow and Exchange Rate Dynamics in Brazil," Finance 0503019, University Library of Munich, Germany.
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    Cited by:

    1. Zhang, Zhichao & Chau, Frankie & Zhang, Wenting, 2013. "Exchange rate determination and dynamics in China: A market microstructure analysis," International Review of Financial Analysis, Elsevier, vol. 29(C), pages 303-316.

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    More about this item

    Keywords

    exchange rate; foreign exchange market; market microstructure; Croatia;
    All these keywords.

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • L23 - Industrial Organization - - Firm Objectives, Organization, and Behavior - - - Organization of Production

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