Abstract: We reassess the pattern of Euro Area financial integration adjusting for the role of “onshore offshore financial centers” (OOFCs) within the Euro Area. While the Euro Area records large levels of international investment both within and outside of the currency union, much of these flows are intermediated via the OOFCs of Luxembourg, Ireland, and the Netherlands. These countries have dual roles as both hubs of investment fund intermediation and centers of securities issuance by foreign firms. We look through both roles and restate the pattern of Euro Area investment positions by linking fund sector investments to the underlying holders and securities issuance to the ultimate parent firms. Our new estimates of Euro Area investment allow us to document a number of stylized facts. First, the Euro Area’s estimated gross external position is smaller than in official data. Second, the Euro Area is more biased towards euro-denominated assets and away from US dollar and other foreign currency assets than in official data. Third, the Euro Area is less financially integrated than it appears. Fourth, European financial integration occurs disproportionately through securities issued in OOFCs rather than via domestic capital markets. Fifth, there is a North-South bias in Euro Area financial integration whereby Northern European countries are relatively underweight securities issued by Southern European countries.
Xiaoliang Wang, Hong Kong University of Science & Technology
Abstract: U.S. dollar exchange rates are predictable by U.S. bond yields in the weeks around monetary policy announcements, rising following an increase in yields. In the post-zero-lower-bound period, the information in the ``path'' factor that reflects forward guidance surprises is impounded in the exchange rate over five days following the FOMC meeting. Using data on currency order flows, we trace out the channel for the delayed adjustment of exchange rates to monetary news. Foreign exchange dealers increase dollar purchases immediately following a monetary tightening, while funds and non-bank financial institutions do so with a 3-5 day delay; banks serve as liquidity providers by supplying dollars. These flows explain much of the exchange rate predictability that we document. Decomposing the daily change of exchange rate into news about future interest rate differentials, excess returns, and inflation, we find that a surprise future tightening of U.S. monetary policy raises all components: expected future returns, interest rate differentials, and long-run differential between U.S. and foreign inflation.
Discussant: Zhengyang Jiang, Northwestern University
Ricardo Reis, London School of Economics and Political Science
Abstract: China conducts its current account transactions using an offshore international currency, the CNH, that co-exists as a parallel currency with the mainland domestic currency, the CNY. The CNH is freely used, but by restricting its exchange for CNY, the authorities impose capital controls. This requires tight management of liquidity to keep the exchange rate between the two currencies pegged. We use this experience to make four contributions. First, we find that exogenous, anticipated, and transitory increases in the supply of money depreciate the exchange rate. Second, we find that the co-existence of the two currencies was sustained by an elastic supply of money. Third, we present a model of private money creation where financial innovation puts strains on the system that can be managed with liquidity controls and policies. Fourth, we show that deviations from the CNH/CNY peg are used as a pressure valve to manage the exchange rate between the yuan and the US dollar.
Discussant: Bin Wei, Federal Reserve Bank of Atlanta
