The credibility of the exchange rate regime: An analisys through derivatives of the September 1992 Crisis (original) (raw)
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2009
This paper argues that, in the September 1992 European currency crisis, market trends in derivatives, in terms of price volatility and change in volumes traded, might have represented an early indicator, in reference to the spot market, of the lack of confidence in the ability of the Italian Lira and the Sterling Pound to maintain their parities within the ERM. The assessment is made by comparing the daily data on Italian/English interbank rates with the implicit yield on short-term interest rate futures and with a maximum compatible with the ERM band created by means of German interbank rates and changes in the exchange rates JEL:codes: F31; G14.
Simple credibility tests of the ERM bands for the pound sterling and the Italian lira
Open Economies Review, 1996
This article presents evidence that the European Monetary System (EMS) bands for the Italian lira and the pound sterling were not credible for most of the period 1990–1992, and especially during the week prior to their withdrawal from the EMS system. Using a simple test, developed by Svensson, domestic interest rates for both Italy and the United Kingdom have been found to be mostly outside the rate-of-return bands implied by the official arrangements of the EMS target zone system. Furthermore, comparing implied forward rates for various maturities with the official EMS bands of both currencies, we again found that the followed monetary policies in both countries were not in general consistent with those needed to maintain an orderly functioning of the (EMS) system. The Svensson test can further be used as an indicator of potential speculative attacks on an EMS currency, and, in turn, as a signal of an emerging need to adjust the corresponding country's monetary policy.
2010
In the present paper we examine whether financial markets could have helped predict exchange rates in selected Central, Eastern and Southeastern European (CESEE) economies, namely the Czech Republic, Hungary and Poland, during the current financial crisis. To this end, we derive risk-neutral densities from the implied volatilities of FX options, which approximate market expectations about exchange rate developments. Based on these risk-neutral density estimates, we then assess the out-of-sample predictive power of indicators. The forecasting results suggest that models based on FX options are inferior to the random walk in terms of the forecasting error, confirming a stylized fact about the short-term forecasting of exchange rates. Yet, we also find that, for the Czech Republic and Poland, risk-neutral densities contain useful information on the direction of change of the exchange rate.
Exchange rate expectations and risk premia in the European Monetary System: 1985?1991
Open Economies Review, 1994
Using a new set of survey data on EMS exchange rates, we investigate exchange rate expectations and risk premia between December 1985 and August 1991 to assess credibility of the system. It appears that the EMS--with the exception of the italian lira--had become credible since early 1990. Moreover, one of the core predictions of the target zone literature--the inverse correlation between the position of the spot rate in the fluctuation band with its expected change--is corroborated for several currencies in the period after April 1990. Although the system appeared to be more credible, the persistence of interest differentials suggested the existence of risk premia. For four out of six currencies we find a significant relationship between the risk premium and the inflation differential relative to Germany.
Exchange rate expectations and risk premia in the European Monetary System: 1985–1991
Open Economies Review, 1994
Using a new set of survey data on EMS exchange rates, we investigate exchange rate expectations and risk premia between December 1985 and August 1991 to assess credibility of the system. It appears that the EMS--with the exception of the italian lira--had become credible since early 1990. Moreover, one of the core predictions of the target zone literature--the inverse correlation between the position of the spot rate in the fluctuation band with its expected change--is corroborated for several currencies in the period after April 1990. Although the system appeared to be more credible, the persistence of interest differentials suggested the existence of risk premia. For four out of six currencies we find a significant relationship between the risk premium and the inflation differential relative to Germany.