Showing papers on "Currency published in 1993"

The Unstable EMS

Abstract: FROM THE STANDPOINT OF EUROPEAN MONETARY AFFAIRS, 1992 opened with a bang and closed with a whimper. In January, the European monetary system (EMS) celebrated five years of exchange rate stability: sixty full months without a realignment. The month before, the representatives of European Community (EC) member-states initialed the Treaty on Economic and Monetary Union concluded at Maastricht in the Netherlands. The transition to European monetary union (EMU) appeared to be fully underway. By the end of the year, the European monetary system had enduredindeed, was continuing to experience-the most severe crisis in its fourteen-year history. Two of ten currencies, the Italian lira and the British

The ‘New’ Theory of Optimum Currency Areas

Abstract: Highbrow opinion is like a hunted hare; if you stand long enough it will come back to the place it started from. Dennis Robertson

Does foreign-exchange intervention matter? The portfolio effect

Abstract: Until recently, there was an unusual degree of consensus among economists that intervention by central banks in the foreign-exchange market did not offer an effective or lasting instrument for affecting the exchange rate, at least not independently of monetary policy. This consensus was largely shared among policymakers and participants in the financial markets as well. The 1982 G-7 economic summit at Versailles commissioned a study of intervention, known as the Jurgenson report, which found that the effects were small and transitory at most.' We think that the time is ripe for new statistical testing of the question. Many policymakers and foreign-exchange traders believe that the intervention operations that have taken place since the Plaza Agreement of September 1985 have had an effect, especially when operations are coordinated. Moreover, the theoretical case against the effectiveness of intervention is not as clear as a reading of the economics literature might suggest. The academic literature is predicated on the distinction between intervention operations that are sterilized and those that are allowed to affect the money supply. We study the intervention operations that actually took place between 1982 and 1988, regardless of whether they were sterilized. However, we do begin in Section I with a review of the issues involved.2 There are two possible channels through which intervention (whether sterilized or not) can influence the foreign-exchange rate: the portfolio and the expectations channels. Intervention can, even if sterilized, influence exchange rates through the portfolio channel, provided foreign and domestic bonds are considered imperfect substitutes in investors' portfolios. Intervention operations that, for example, increase the current relative supply of mark to dollar assets which private investors are obliged to accept into their portfolios, will force a decrease in the relative price of mark assets.3 Intervention can also influence exchange rates, regardless of whether foreign and domestic bonds are imperfect substitutes, through the expectations channel. The public information that central banks are intervening in support of a currency (or are planning to intervene in the future) may, under certain conditions, cause speculators to expect an increase in the price of that currency in the future. Speculators react to this information by buying the currency today, bringing about the change in the exchange rate today. In Sections II and III we describe the econometric problems that arise in the standard portfolio-balance estimation equation. We derive an alternative portfolio-balance *Dominguez: Kennedy School of Government, Harvard University, 79 J. F. Kennedy Street, Cambridge, MA 02138; Frankel: Department of Economics, University of California, 787 Evans Hall, Berkeley, CA 94720. We thank three anonymous referees for valuable comments and suggestions; Julia Marsh and Julia Lowell for research assistance; and Franz Scholl at the Bundesbank, Jean-Pierre Roth at the Swiss National Bank, and officials at the U.S. Treasury and the Board of Governors of the Federal Reserve System for making the daily intervention data available. 1Many of the econometric results, finding little or no effect, were reported in Kenneth S. Rogoff (1984) and Dale W. Henderson and Stephanie Sampson (1983). 2For authoritative statements, see Henderson (1984) or Maurice Obstfeld (1990). 3The exchange-rate reaction to an increase in the relative supply of outside foreign assets may be reduced if there is an increase in their expected rate of return that induces a corresponding increase in demand.

Toward a Theory of International Currency

Abstract: We use the framework of random matching games and develop a two-country model of the world economy, in which two national currencies compete and may be circulated as media of exchange. There are multiple equilibria, which differ in the areas of circulation of the two currencies. In one equilibrium, the two national currencies are circulated only locally. In another, one currency is circulated as an international currency. There is also an equilibrium in which both currencies are accepted internationally. We also find an equilibrium in which the two currencies are directly exchanged. We first characterize the existence conditions of these equilibria in terms of the relative country size and the degree of economic integration and then use an evolutionary approach to equilibrium selection to explain the evolution of the international currency as the two economies become more integrated. Some welfare implications are also discussed. For example, a country can improve its national welfare by letting its own currency circulate internationally, provided the domestic circulation is controlled for. When the total supply is fixed, however, a resulting currency shortage may reduce the national welfare.

Currency Hedging for International Portfolios

Abstract: This paper examines the benefits from currency hedging, both for speculative and risk minimization motives, in international bond and equity portfolios. The riskreturn performances of globally diversified portfolios are compared with and without forward contracts. Over the period 1974 to 1990, inclusion of forward contracts results in statistically significant improvements in the performance of unconditional portfolios containing bonds. Conditional strategies are also implemented, both in sample and out of sample, and are shown to both significantly improve the risk-return tradeoff of global portfolios and to outperform unconditional hedging strategies. WHETHER INTERNATIONAL PORTFOLIOS SHOULD be hedged against currency risks is the subject of an active debate. The theoretical side of the debate has been closely associated with two strands in the academic literature: international asset pricing and optimal hedging in the futures markets. In the international asset-pricing model (IAPM) of Solnik (1974), optimal portfolios contain positions in forward contracts, or equivalently foreign currency denominated bills. These positions, which can differ from the positions in foreign stocks, have since been termed "hedges." Black (1990) shows that, under additional assumptions, the hedge ratios should be identical for all investors regardless of their nationality (universality) and that investors should never fully hedge their foreign currency exposures. Similarly, theoretical models from the futures literature produce demands for hedging instruments that contain both speculative and hedging components. The empirical issue, unanswered so far, is whether adding forward contracts to international portfolios significantly improves the risk-return profile of global investments. Empirical research has barely begun to respond to the challenges of theoretical models; there exists little empirical evidence on either the relevance of Black's universal hedge ratios, or the optimality of hedge ratios less than one. Instead, researchers have concentrated on the benefits of fully hedging exchange risk. For example, Eun and Resnick (1988) indicate that stock portfolios perform better when fully hedged, but offer no statistical tests

Who Adjusts? Domestic Sources of Foreign Economic Policy during the Interwar Years

Abstract: This study presents a fresh view of why governments decided to abide by or defect from the gold standard during the 1920s and 1930s. Previous studies of the spread of the Great Depression have emphasized "tit-for-tat" currency and tariff manipulation and a subsequent cycle of destructive competition. This work, on the other hand, analyzes the influence of domestic politics on national responses to the international economy. In so doing, it confirms that different political regimes chose different economic adjustment strategies. Using cross-sectional time series data and four cases studies, it offers a profile of the domestic politics and institutions associated with capital flight, current account deficit, currency devaluation, and tariff protection - all of which were inconsistent with the demands of remaining on the gold standard. The work demonstrates that capital flight and current account deficits stemmed largely from governmental failure to develop credible anti-inflationary policies. In turn, decisions to externalize the subsequent deficits, whether through high tariffs or devaluation, were also driven by domestic political conditions.

Secure, automated transaction system that supports an electronic currency operating in mixed debit & credit modes

Abstract: This invention describes a combination of methods and apparatus that creates electronic money for personal transactions which integrates the functions of cash, checks and credit cards with constant surveilance against fraud. This money can also serve as an international medium-of-exchange, and support automated sales tax collections and payment. This money's support system is comprised of personal terminals, vendor terminals, an electronic banking sub-system, and homebase terminals. Such a system, if widely used, would increase commercial and personal productivity, provide better security against fraud and counterfeiting, facilitate the automation of operations that involve currency, and sharply diminish the flood of paper that threatens to inundate the present system.

Accounting for Forward Rates in Markets for Foreign Currency

Abstract: ABSTERACT Forward and spot exchange rates between major currencies imply large standard deviations of both predictable returns from currency speculation and of the equilibrium price measure (the intertemporal marginal rate of substitution). Representative agent theory with time-additive preferences cannot account for either of these properties. We show that the theory does considerably better along these dimensions when the representative agent's preferences exhibit habit persistence, but that the theory fails to reproduce some of the other properties of the data-in particular, the strong autocorrelation of forward premiums. SINCE THE ADVENT OF flexible exchange rates in the early 1970s, a large body of statistical work has established that forward rates for major currencies are not optimal predictors of future spot rates. Relevant evidence is reported in studies by Baillie, Lippens, and McMahon (1983), Bekaert (1991), Bilson (1981), Boothe and Longworth (1984), Cumby (1988), Cumby and Obstfeld (1984), Fama (1984), Gregory and McCurdy (1984), Hansen and Hodrick (1983), Hodrick and Srivastava (1984), and Korajczyk and Viallet (1990); a more complete list of references is provided by Hodrick (1987). These papers indicate that returns from speculation in forward and spot currency markets are predictable, and that the predictable components vary considerably over time. A number of alternative explanations have been offered for the predictable variation in foreign currency market excess returns. Kaminsky (1988), Korajczyk (1985), and Krasker (1980) suggest that infrequent extreme events may make returns appear predictable in small samples-the so-called "peso problem." Lewis (1989) argues that rational learning following infrequent changes in the process governing equilibrium prices can explain part of the ex post predictability of currency returns. Froot and Frankel (1989) and Froot and Thaler (1990) examine the hypothesis that market forecasts of future spot

Policy issues in the operation of currency unions: Is Europe an optimum currency area?: evidence from regional data

Abstract: In this paper we contrast regional and national data on real exchange rate movements, the growth rates of output and employment, labour mobility and unemployment. We find that asymmetric shocks tend to be more prevalent at the regional than at the national level in Europe. The presumption of the optimum currency area literature holds relatively well, i.e. the adjustment mechanism at the national level involves very little mobility of labour and substantially more real exchange rate variability. At the regional level the opposite holds, although we find some role for real exchange rate adjustments. Finally, we identify two models of regional integration, a `Northern' and a `Southern' one. Implications for monetary union in Europe are drawn.

Currency Competition, Network Externalities and Switching Costs: Towards an Alternative View of Optimum Currency Areas

Abstract: Existing models of currency competition and monetary union ignore network effects and switching costs. This paper develops a simple model that incorporates these features and shows how it can be used to shed light on observed monetary experience and current issues in international monetary relations. It explains why agents will often be reluctant to switch currencies, highlights the role of expectations, and sheds light on the nature of currency competition and the effect of legal restrictions. Copyright 1993 by Royal Economic Society.

Policy issues in the operation of currency unions: Labor markets and European monetary unification

Abstract: Introduction Monetary unification promises to revolutionize the conduct of macro-economic policy in Europe. Countries previously free to pursue independent monetary policies will be forced to toe a common line. New constraints will be placed on the conduct of fiscal policy, whether the monetary union treaty incorporates explicit ceilings on budget deficits or governments are simply precluded from printing money to finance public spending. Economic and Monetary Union, or EMU, insofar as it entails a loss of policy autonomy, may involve real economic costs as well as the convenience and efficiency gains of transacting in one rather than several national currencies. In his seminal article on optimum currency areas, Mundell (1961) identified two criteria useful for evaluating such costs. The first is the incidence of shocks. If disturbances are distributed symmetrically across countries, a common policy response will suffice. In response to a negative aggregate demand shock, for example, that is common to all EMU countries, a common policy response in the form of a simultaneous monetary and/or fiscal expansion may be all that is required. Only if disturbances are distributed asymmetrically across countries will there be occasion for an asymmetric policy response and may the constraints of monetary union bind. The second criterion identified by Mundell is the extent of labor mobility. The more mobile is labor the less is the need for different policy responses to prevent the emergence of regional problems.

Beyond emu: the problem of sustainability

Abstract: A common currency, as envisioned in the Maastricht treaty, is thought to be the surest way to “lock in” commitments to monetary cooperation among sovereign states. But historical evidence suggests otherwise. Comparative analysis of six currency unions demonstrates that while economic and organizational factors are influential in determining the sustainability of monetary cooperation, interstate politics matters most. Compliance with commitments is greatest in the presence of either a locally dominant state, willing and able to use its influence to sustain monetary cooperation, or a broad network of institutional linkages sufficient to make the loss of monetary autonomy tolerable to each partner.

Policy issues in the operation of currency unions

Abstract: This book provides an overview as well as the latest research on currency unions - geographical areas throughout which a single currency circulates as the medium of exchange. The issues discussed are central to debates on economic and monetary union in Europe, and the future of Eastern Europe. In addition to a specially written survey chapter by the editors, it contains previously unpublished contributions by leading researchers in the field, discussing real and potential currency unions in the United States, the former Soviet Union, Europe, and Africa.

Currency exchange rate prediction and neural network design strategies

Abstract: This paper describes a non trivial application in forecasting currency exchange rates, and its implementation using a multi-layer perceptron network. We show that with careful network design, the backpropagation learning procedure is an effective way of training neural networks for time series prediction. The choice of squashing function is an important design issue in achieving fast convergence and good generalisation performance. We evaluate the use of symmetric and asymmetric squashing functions in the learning procedure, and show that symmetric functions yield faster convergence and better generalisation performance. We derive analytic results to show the conditions under which symmetric squashing functions yield faster convergence, and to quantify the upper bounds on the convergence improvement. The network is evaluated both for long-term forecasting without feedback (i.e. only the forecast prices are used for the remaining trading days), and for short- term forecasting with hourly feedback. The network learns the training set near perfect, and shows accurate prediction, making at least 22% profit on the last 60 trading days of 1989.

Real Exchange Rate Volatility and International Trade: A Reexamination of the Theory*

Abstract: One of the issues that have received considerable attention in the comparison of the properties of alternative exchange rate regimes is the effect of exchange rate risk on the volume of trade. It has been argued that the higher volatility of exchange rates witnessed since the adoption of the floating regime in 1973 has led to a decrease in international trade transactions. This is because most trade contracts are not for immediate delivery of goods; and since they are denominated in terms of the currency of either the importer or the exporter, unanticipated fluctuations in the exchange rate affect realized profits and hence the volume of trade. It is implicitly assumed that forward exchange markets that can help traders eliminate this type of variations in profits either are not available (as it is true for the majority of currencies because most are not fully convertible, thereby impairing forward markets) or for some reason they are not utilized to fully hedge exchange risk present in trade transactions.' The empirical evidence, regarding the effect of exchange rate risk on trade, has at best been inconclusive. The large majority of the empirical studies are unable to establish a systematically significant link between exchange rate variability and the volume of international trade whether on an aggregate or on a bilateral basis. Abrams [1], Akhtar and Hilton [2], Cushman [4; 5; 6] and Kenan and Rodrik [12] find some significant negative effects of exchange volatility on exports. However, Bailey, Tavlas, and Uhlan [3], Hooper and Kohlhagen [10] and an International Monetary Fund Study [11] do not find any supporting evidence for the depressing effect of exchange rate volatility on international trade. It is also interesting to note that, in many of these studies, a significant positive effect of exchange rate volatility on the volume of trade is found for some cases. However, the positive effect, believed to be at odds with the theory was either ignored or dismissed as a perverse result, since "as far as volumes are concerned, theoretical considerations

The political economy of european monetary unification: an analytical introduction

Abstract: European monetary unification (EMU) - the creation of a single European currency and a European Central Bank - is both an economic and a political phenomenon. Yet few studies have attempted to address simultaneously the political and economic dimensions of the process. In this introduction, we review and extend the relevant literatures. The evidence leads us to conclude that EMU is driven mainly by political rather than economic factors, although our understanding of even these political forces remains incomplete.

China at the Threshold of a Market Economy

Abstract: This paper reviews China's experience with market-oriented reform since 1978, including domestic reforms, the opening of the economy to foreign trade and investment, and the decentralization of decision making. It identifies special conditions that may have affected China's capacity to implement reforms, assesses the impact of the reforms on the structure of the economy and on its integration into the world economy, examines the effect of the reforms on macroeconomic management and stability, and draws implications for the direction of China's future reform strategy.

Speculative currency attacks and balance of payments crises

Abstract: . This paper reviews the recent theoretical literature on collapsing exchange rate regimes. Using a combination of technique, intuition and realworld observation, we discuss the literature's main insights, point out some unresolved questions and offer suggestions for future research. The survey should be of interest to both specialists and non-specialists in the field of international macroeconomics.

Fixed Exchange Rates as a Means to Price Stability: What Have We Learned

Abstract: The paper discusses what we have learned from last year's currency crises in ERM and the Nordic countries about fixed exchange rates as a means to achieve price stability. After discussing the explanations for the crises, the paper concludes that fixed exchange rates are not a shortcut to price stability. Monetary stability and credibility have to be built at home and cannot easily be imported from abroad. Fixed exchange rates are more fragile and difficult to maintain than previously thought. They may even be in conflict with price stability, by inducing a procyclical destabilizing monetary policy, and by inducing an inflation bias. Building monetary credibility is even more important with flexible exchange rates.

Economic preconditions for the Asian regional integration.

Abstract: Recent developments in Europe and North America suggest that the world is now under a tide of new regionalism. This paper asks whether conditions are favorable or unfavorable for regional economic integration in Asia. By referring to statistical indicators and applying by various statistical methods including a principal component analysis we reach the following tentative conclusion: Economic conditions for regional integration in Asia are at least as favorable as those in unifying Europe. Preconditions for a free trade area in Asia is satisfied. However since Asian countries depend heavily on trade with the United States and Japan a free trade area that hinders the trade with these countries would not be practical. Preconditions for a currency union in Asia are also met. In the case of a currency union however it is not clear whether Asian countries would be benefitted by linking their common currency to a major currency such as the dollar or the yen. (authors)

Dollarization in Argentina

Abstract: Argentina became highly "dollarized" during its hyperinflations of 1989 and early 1990. Although inflation has returned to very low rates, a high degree of dollarization has persisted during the early 1990s, counter to what the currency substitution hypothesis predicts. This paper provides new evidence that explains the continued dollarization of the Argentine economy. ; First, we develop a new measure of dollar currency circulating in foreign countries. This measure improves our ability to analyze dollariza­tion and currency substitution by distinguishing between dollar currency holdings and dollar deposits, and thereby represents an important advance over previous studies that focused on dollar deposit holdings only. Em­pirically, these components of dollar assets for Argentina have responded differently to recent macroeconomic shocks. ; Second, cointegration analysis of peso money demand in Argentina finds a negative "ratchet effect" from inflation on the demand for pesos. The reduction in peso money demand attributable to the ratchet effect is similar in magnitude to the estimated stock of all dollar assets held domestically by Argentine residents, consistent with the hypothesis of irreversible dollarization.

Transmission of the Great Depression

Abstract: To a first approximation, the question of how the Great Depression spread from country to country is short and straightforward: fixed exchange rates under the gold standard transmitted negative demand shocks. The first half of this paper consequently will describe current thinking about the relationship between the gold standard and the Great Depression. The second half of the paper will look at a phenomenon not included in this first approximation: financial crises. Many have noted that banking panics and currency crises are bad for national economies, but few have tried to model their international spread.

Russian Currency and Finance: A Currency Board Approach to Reform

Abstract: As the new Russian state struggles with the transition to a market economy, the need for radical monetary reform becomes increasingly urgent. The choice of reform is crucial, for it will largely determine Russia's future economic performance. In order to break free of the lingering effects of Soviet central planning, the new Russian state needs a stable, convertible currency. Steve H. Hanke, Lars Jonung and Kurt Schuler propose that Russia establishes a currency board which would issue a Russian currency fully convertible with international currency, backed 100 per cent by international bonds. The international community would aid in establishing the currency board by providing the initial reserves. Early supplies of this new Russian currency would be distributed free to Russian citizens. The authors give detailed explanations of how the currency board could be established and how it would work.

The Operation of the Estonian Currency Board

Abstract: This paper describes the operation of the Estonian currency board arrangement that has pegged the Estonian kroon to the deutsche mark since June 20, 1992, when Estonia left the ruble zone and introduced its own currency. The paper describes the institutional arrangements that were chosen for Estonia and discusses the implications for policy, markets, and program design. After reviewing the performance of the system over the first nine months of its operation, the paper considers how the arrangement will function over the medium term. [JEL F31]

Anti-counterfeiting laminated currency and method of making the same

Abstract: The present invention pertains to a method of producing an anti-counterfeiting document or currency which acts and feels like existing paper currencies. The method of the present invention laminates two sheets of currency paper on each side of a thin durable substrate film, thereby forming a durable document which maintains a paper-like feel. The currency of the present invention exhibits unique and powerful anti-counterfeiting features compared to those presently available. The currency of the instant invention also lasts significantly longer than conventional "paper" money.

Clearinghouse banks and banknote over-issue

Abstract: The paper presents a model of banks as clearinghouses of private debt where money is used as the means of payment. Implications of the model include: i) the private provision of banknotes or a discount window may be needed to avoid the insufficient debt clearing that results from an inflexible currency stock; and ii) an uncontrolled total money stock may result in a multiplicity of equilibria including an inflationary banknote over-issue.