Essays in International Finance
This dissertation consists of three chapters. The first chapter, "What Makes a Commodity Currency?", looks at real exchange rate behavior of developing countries that depend heavily on commodity exports. A primary purpose of this chapter is to understand various responses of real exchange rates to world commodity price shocks in these countries. Our panel data analysis using 63 countries for 1980-2010 finds that, in accordance with theory, the long-run cointegrating relationship between the real exchange rate and commodity export prices depends on the nation's export market structure, its monetary policy choices and its degree of trade and financial openness. We also show that the commodity price-exchange rate connection is much weaker in the short-run and for a group of oil-exporting countries. Given concerns for the Dutch disease or resource curse, our findings are of particular relevance for monetary policy-making and for globalization strategy in commodity-exporting developing economies. The second chapter of my dissertation, "Benefits of Reserve Pooling Arrangements", examines the expected benefits of reserve-pooling arrangements between emerging economies in order to see if this bilateral coordination can help lower the degree of externality associated with the excessive reserve hoarding. I develop a two-period, two-states-of-nature precautionary savings model where agents have imperfect access to international financial markets, and countries engage in competitive hoarding of reserves. To maximize utility, countries face a choice between hoarding larger relative reserves which lower the probability of a speculative attack in the second period, at the expense of foregone returns from the domestic capital accumulation. I compare resource allocations based on Nash- versus cooperative-equilibrium to investigate the possible gains from a multi-country collective management of reserves. Preliminary simulation results show that the level of reserve holdings and the probability of speculative attack decline noticeably under the cooperative equilibrium, while a level of domestic capital investment declines with the lower reserves. This result suggests that reserve co-management can effectively reduce the externality generated by the "keeping-up-with-the-Joneses" effect in reserve accumulation, and help relax the external credit constraint faced by emerging economies in a crisis. Lastly, the third chapter, "Financial Openness, Exchange Rate Risk and Portfolio Rebalancing", studies a rebalancing motive of fund managers who invest in both developed and emerging economies. While the recent portfolio-data based literature generally finds a risk rebalancing as a dominant portfolio strategy by fund managers, we observe a large variation in the degree of rebalancing across different investment destination countries. This chapter seeks to explain this variation using country-specific economic determinants. Our fund-level panel data analysis based on 44 countries over the period 1999m01-2010m12 finds that, consistent with our portfolio balance model prediction, financial openness with a lower capital flow barrier and higher nominal exchange rate flexibility tend to reinforce the risk rebalancing motive. In addition, this rebalancing motive appears larger for a country with the larger volatility of its total equity market return, where the exchange rate return volatility plays a dominant role.
- Economics