A comparative study of exchange rates and order flow based on wavelet transform coherence and cross wavelet transform

Customer Order Flow and Exchange Rate Movements: Is there Really Information Content?

The Dynamic Interaction of Order Flows and the CAD/USD Exchange Rate

This paper provides a market-microstructure analysis of exchange rate dynamics in the Chinese foreign exchange market using a vector autoregressive (VAR) modeling framework. An index of order flow is constructed in the Chinese context to reflect excess demand pressure in the foreign exchange market. The VAR model is then estimated to examine whether, and to what extent, order flow influences the long-term level and short-term fluctuations of the Chinese exchange rate. Focusing on the relationship between cumulative order flow and the exchange rate of the Chinese renminbi (RMB) against the US dollar, we find that order flow as a measure of excess demand pressure explains a significant part of the fluctuations in the RMB–dollar exchange rate. Specifically, the results show that there is a long-term cointegrating relationship among the order flow, macro factors and the exchange rate. Overall, these findings are important in understanding the role of order flow in exchange rate determination and bear important implications for practitioners and market regulators.

Background/Objectives: Export competitiveness of an economy is determined by exchange rate and price level movements. This paper endeavors to analyze relative price and exchange rate movements in selected Asian countries visà-vis India and theirimplications for trade policy. Methods/Statistical analysis: The trends in changes in relative prices, exchange rates and trade are analyzed for years 1993, 2003 and 2013. Unit value index for exports is used to calculate relative price ratios. The relative prices and exchange rates are calculated using simple mathematical equations. Then, the price ratios and exchange rates are compared with export and imports movements of each country vis-à-vis another to assess effects of these movements on trade competitiveness. Findings: The study elucidates thatthe greater the increase in the exchange rate than the increase in the relative price level, the beneficial it is for a country to trade with another country. India’s exports to selected five countries reflected an upward trend whenever the depreciation of currency was greater that the upward movements in the price levels. An analysis of percentage changes in price and exchange rates and growth rates of exports and imports also reflects that India experienced a slow growth in exports in all those years when price rise was not compensated equally by exchange rate depreciations.It also indicates that whenever the price rise was compensated by the equivalent or greater depreciation of currency, there was surplus in trade with the competing country. These findings are in tune with fundamental macroeconomic theory of exchange rates and price movements. This analysis clearly indicates that unlike other competing economies India lacks active policy interventions that will help in enhancing export competitiveness through precise exchange rate movements. Applications/Improvements: The study puts forward a strong case in favor of an exchange rate policy that brings about the movements in exchange rate in such a manner as to compensate for the changing price level in India. Keywords: Exchange Rate Movements, Export Competitiveness, Price Level, Trade Policy

Portfolio Reallocation and Exchange Rate Dynamics

The Flows of the Pacific: Asian Foreign Exchange Markets through Tranquility and Turbulence

This article examines the relationship between government popularity and exchange rate movements in Britain since 1987. It argues that: (1) unexpected drops in the government’s public support lead to currency depreciations and increased exchange rate volatility, and (2) unanticipated depreciations hurt the government’s public support. It estimates separate models of the exchange rate and government voting intention iteratively and recursively. At each iteration, measures of exchange rate and public opinion shocks are generated. These generated variables are employed in the next iteration of estimates, including measures of political shocks in the model of exchange rate behavior and measures of exchange rate movements in the model of voting intention. This enables, therefore, the measurement of both the political costs of currency depreciation and the exchange rate consequences of political competition.

Purpose The purpose of this paper is to analyze how monetary fundamentals affect exchange rate movements. Design/methodology/approach To develop this paper, a Bayesian Network modeling is applied to explore the causal interactions between monetary fundamentals and exchange rate fluctuations. Subsequently, a sensitivity analysis is performed to asses and estimate exchange rate behavior with uncertain monetary fundamentals. Furthermore, a Granger Causality test is used as suggested in the Econometric literature to determine the causality direction among factors. Findings The empirical findings show that money supply and interest rate have a significant positive effect on exchange rate, whereas inflation rate has a considerable negative effect on exchange rate. In addition, the authors deduce that real income has an indirect impact on exchange rate and a direct impact on inflation rate, interest rate and money supply. Furthermore, the sensitivity analysis shows that monetary uncertainty has a considerable effect on exchange rate fluctuations. Moreover, the Granger Causality test reveals that there is a unique unidirectional causality running from money supply to exchange rate. Practical implications The model can be considered as a vital management tool for international investors and financial analysts to explore the effect of monetary fundamentals on exchange rate behavior. It allows estimating exchange rate fluctuations with uncertain monetary factors. Originality/value This study is the first one which applied a Bayesian Network modeling to examine the exchange rate determination problem. Results of this research are presented under a clear graphical representation that can be easily useful by monetary policymakers and international traders to determine the influential monetary factors on exchange rate behavior. Also, the model will help them in estimating the effect of monetary uncertainty on exchange rate fluctuations.

The study examines the rupee–US dollar exchange rate (Rs/$) behaviour in the presence of increasing and ample capital inflows in the post-reform period in India. Using monthly data (1994:4 to 2007:8) the study estimates a basic exchange rate model in a time series framework in order to assess the relative significance of capital inflows in the presence of interest rate, inflation rate and growth rate differentials and other factors (forward exchange rate/expected exchange rate) in influencing the rupee–dollar exchange rate behaviour. It finds the dominance of foreign institutional investments affecting the rupee–dollar exchange rate and, to a certain extent, it is seen that the influence of the growth rate differential affects the exchange rate behaviour in India.

Using tick-by-tick data for the dollar–yen and euro–dollar exchange rates recorded on the actual transaction platform, a ‘run’—continuous increases or decreases in deal prices for the past several ticks—does have some predictable information on the direction of the next price movement. Deal price movements, that are consistent with order flows, tend to continue a run once it is started. Indeed, conditional probabilities of a run continuing in the same direction after several consecutive observations exceed 0.5. However, quote prices do not show such a run tendency. Hence, a random walk hypothesis is refuted in a simple test of a run using tick-by-tick data. In addition, a longer continuous increase of the price tends to be followed by a larger reversal. The findings suggest that those market participants who have access to real-time, tick-by-tick transaction data may have an advantage in predicting exchange rate movements. The findings reported here also lend support to the momentum trading strategy.

The Dynamic Long Run and Short Run Linkages between Exchange Rates and BSE Sensex Return

Intervention operations are used by governments to manage their exchange rates but officials rarely confirm their presence in the market, leading inevitably to erroneous reports in the financial press. There are also reports of what we term, unrequited interventions, interventions that the market expects but do not materialize. In this paper we examine the effects of various types of intervention news on intra‐day exchange rate behaviour. We find that unrequited interventions have a statistically significant influence on returns, volatility and order flow, suggesting that the expectation of intervention, even when governments do not intervene, can affect currency values. Copyright © 2007 John Wiley & Sons, Ltd.

The existing empirical studies on the effectiveness of RBI intervention in the exchange rate market are based on single equation/GARCH models. Recognizing the interdependence between exchange rate returns, conditional volatility of exchange rate and RBI intervention, this study uses a simultaneous equations framework to examine the efficacy of intervention by RBI. Additionally, we control for the impact of macro-economic fundamental variables and micro-structure variable in our model. The econometric methodology used in the study includes two steps. In the first step, DF-GLS, Ng-Perron and, Lee and Strazicich unit root tests are used to examine the stationarity of the variables. In the second step, the simultaneous equations model is estimated using the generalized method of moments (GMM)-IV. This study is based on secondary data at monthly frequency, spreading from 1996:08 to 2016:10. The main findings of the study are as follows. The results of unit root tests suggest that all variables included in the analysis are stationary. The system GMM-IV estimates of the model indicate that exchange rate returns are influenced by RBI intervention, output growth differential, money supply growth differential, stock market returns, capital flows, EUR-USD exchange rate returns, change in trade balance differential and order flow. Additionally, the estimates of exchange rate volatility equation suggest that RBI intervention significantly decreases exchange rate volatility. Further, we find that volatility in capital flows has significant and positive impact on exchange rate volatility. The estimates of the central bank intervention equation suggests that exchange rate returns have a significant and negative impact on RBI intervention in foreign exchange rate market. We also find evidence for the presence of asymmetry in RBI intervention. The key implications of the study indicate that RBI intervention is effective in stabilizing the Indian exchange rate market in the face of both domestic and external shocks. Furthermore, exchange rate returns are significantly affected by RBI intervention, macro-economic variables and micro-structure variable. The findings of this study may be useful for formulating India's monetary policy.

The Information Content of Retail Investors' Order Flow

In international finance, the competing hypothesis that the logarithms of real exchange rates appear to be well-described as random walks during a period of floating rate, has found some support. Studies by Adler and Lehmann [2], Hakkio [12] and Mark [18] are examples of work supporting this view. If a real exchange rate process has been approximated to be non-stationary it implies there is little tendency for the real exchange rate to be mean-reverting, and also that deviations from the purchasing power parity (PPP) are permanent. Modern models of exchange rate determination suggest that real shocks can induce permanent changes in the real exchange rate. Stockman [21] pointed out that according to the approach, the behavior of real exchange rates since the collapse of Bretton Woods could reflect, not the importance of sluggish price-level adjustment, but rather the influence of real shocks with significant permanent components. Moreover, the evidence in Campbell and Clarida [5] and Huizinga [13] suggests that real exchange rates contain both permanent and transitory components, with most of their variation explained by the permanent components. However recent studies employing long-run data, or more powerful tests, tend to confirm the PPP hypothesis. Studies by Abuaf and Jorion [1], Kim [16], Whitt [22] and Diebold, Husted, and Rush [7] are four such examples. Their evidence shows that real exchange rates are stationary, which implies that the behavior of real exchange rates are influenced by transitory nominal disturbances. Hence, the validity of PPP remains at issue. Identifying the sources of exchange rate fluctuations is important not only for establishing the validity of PPP but also for achieving successful exchange rate stabilization. Attempts to stabilize exchange rate changes that are due to economic fundamentals could be futile and even harmful to the economy. In addition, measuring the relative importance of permanent and transitory shocks on exchange rates is essential for exchange rate modeling. If exchange rates are dominated by real shocks then the equilibrium approach offered by Stockman [21] is appropriate in analyzing the behavior of exchange rates. Conversely, if the evidence suggests the contrary, then the disequilibrium approach of Dornbusch [8] should be considered as an alternative. As a consequence,