Co-movement of Exchange Rates with Interest Rate Differential, Risk Premium and FED Policy in "Fragile Economies"

Co-movement of Exchange Rates with Interest Rate Differential, Risk Premium and FED Policy in "Fragile Economies"

Title:

Co-movement of Exchange Rates with Interest Rate Differential, Risk Premium and FED Policy in “Fragile Economies”  

Number:

16/21

Author(s):

M. Utku Özmen,  Erdal Yılmaz

Language:

English

Date:

September 2016

Abstract:

In this study, we use the wavelet coherency analysis in order to investigate the relationship between the exchange rate changes and its major financial determinants for selected emerging economies. Our analysis shows that the changes in exchange rate are correlated with interest rate differentials, risk premium, the FED’s monetary policy implementation and its policy uncertainty. Our findings reveal that the co-movement between the exchange rate changes and its financial determinants substantially changes across frequencies and over time: it becomes stronger/weaker or disappears completely at times. Also, although grouped together as “fragile economies”, the co-movement patterns of the exchange rate with major determinants vary to a large extent across these countries. Finally, the strongest co-movement of exchange rate changes is with the risk premium in all countries.

Keywords:

Exchange rate, FED policy, Uncertainty, Country risk, Fragile economies, Wavelet coherency

JEL Codes:

E43; F31; F41

Co-movement of Exchange Rates with Interest Rate Differential, Risk Premium and FED Policy in "Fragile Economies"
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