the academy of economic studies bucharest doctoral school of banking and finance dissertation paper...

The Academy of Economic Studies BucharestThe Academy of Economic Studies BucharestDoctoral School of Banking and FinanceDoctoral School of Banking and Finance

DISSERTATION PAPER

Exchange Market PressureExchange Market Pressureandand

Central Bank InterventionCentral Bank InterventionMSc. Student: MATEI SEBASTIANSupervisor: Prof. MOISĂ ALTĂR

Bucharest, July 9, 2001Bucharest, July 9, 2001

•Introduction

•Review of the concepts

•Theoretical model

•Empirical estimation

•Practical considerations

Central bank interventionCentral bank intervention

•sterilized intervention

•unsterilized intervention

Exchange Market PressureExchange Market Pressure

•measure of the disequilibrium in the foreign exchange market

REVIEW OF THE CONCEPTS (1)REVIEW OF THE CONCEPTS (1)

Model independent definition of Model independent definition of exchange market pressure, Weymark (1998):exchange market pressure, Weymark (1998):

Exchange market pressure measures the total excess demand for a currency in the foreign exchange market as the exchange rate that would have been required to remove this

excess demand in the absence of exchange market intervention, given the expectations generated by the

exchange rate policy actually implemented..

REVIEW OF THE CONCEPTS (2)REVIEW OF THE CONCEPTS (2)

THEORETICAL MODEL (1)THEORETICAL MODEL (1)

money demand equation:money demand equation:

tttDt iypm 210

domestic inflation equation:domestic inflation equation:

ttt epp 210

iieEe ttttt 1

uncovered interest rate parity condition:uncovered interest rate parity condition:

money supply equation:money supply equation:

tomot

St rmm


monetary policy reaction function:monetary policy reaction function:

tomot pm 10

exchange rate policy reaction function:exchange rate policy reaction function:

ttt er money market equilibrium:money market equilibrium:

Dt

St mm


01000

0100

00)1(10

0001

)1101

0

10

10

1

12

2

tt

t

t

t

omot

t

t

t

t

i

p

y

r

m

e

i

p

L

system specification of the model:system specification of the model:

solving for exchange rate change gives:solving for exchange rate change gives:

21

221

423211

)1(

)1(

L

AAAAe

tt

where:where:

tyA 101 tpA 102 ttiA 3 04 A


tEDCAAAA :)1( 423211 definition of excess demand for currency:definition of excess demand for currency:

21

221)1(

L

EDCe

t

tt

exchange rate change becomes:exchange rate change becomes:

it leads to the following first order difference equation:it leads to the following first order difference equation:

)(1 12221 ttttt eEEDCe

solving forward results:solving forward results:

0221 )1(

1

kktkt

tt EDCEe

where where k k is a combination of the parameters of the model.is a combination of the parameters of the model.


using Weymark(1998), we define exchange market pressure as :using Weymark(1998), we define exchange market pressure as :

0221

)()1(

1

kktktt EDCEEMP

which can be written as:which can be written as:

ttt reEMP

221 )1(

1

where the conversion factor is:where the conversion factor is:

221)1(

1

the degree of central bank intervention is:the degree of central bank intervention is:

t

tt EMP

r

221)1(

EMPIRICAL ESTIMATION (1)EMPIRICAL ESTIMATION (1)

money demand equation:money demand equation:

123210 DUMiypm tttDt

domestic inflation equation:domestic inflation equation:

970332110 DUMepp ttt

money supply equation:money supply equation:

01310 DUMprm ttSt


estimation method: two-stage least squaresestimation method: two-stage least squares

candidates for the role of instrumental variables:candidates for the role of instrumental variables: -one period lagged values of endogenous variables-one period lagged values of endogenous variables -present and one period lagged values of exogenous -present and one period lagged values of exogenous variablesvariables

the selection of the instrumental variables is based on the the selection of the instrumental variables is based on the statistical significance of the candidate variables in the statistical significance of the candidate variables in the regression of the endogenous variables on all the candidate regression of the endogenous variables on all the candidate variablesvariables

the following set of instrumental variables resulted:the following set of instrumental variables resulted:

'11

ttttt epiypQ


T a b l e 1 M o n e y d e m a n d e q u a t i o n

D e p e n d e n t v a r i a b l e : tm - tp

M e t h o d : t w o - s t a g e l e a s t s q u a r e s

S a m p l e : 1 9 9 7 : 0 2 2 0 0 1 : 0 3

I n s t r u m e n t a l v a r i a b l e s : '

11

ttttt epiyp

V a r i a b l e C o e f f i c i e n t S t a n d a r d E r r o r t – s t a t i s t i c P r o b a b i l i t y

0 - 0 . 0 6 2 3 5 6 0 . 0 2 1 7 9 7 - 2 . 8 6 0 7 7 3 0 . 0 0 6 3

1 1 . 2 3 2 5 6 2 0 . 4 7 9 7 2 1 2 . 5 6 9 3 3 4 0 . 0 1 3 5

2 - 2 . 2 5 0 9 8 8 0 . 5 6 2 8 6 0 - 3 . 9 9 9 1 9 4 0 . 0 0 0 2

3 0 . 6 6 5 9 6 7 0 . 2 0 2 0 6 3 3 . 2 9 5 8 4 4 0 . 0 0 1 9

2R = - 0 . 3 5 6 4 8 3 S t d . E r r o r = 0 . 1 2 3 0 8 6 D W = 2 . 0 0 0 3

T e s t V a l u e D i s t r i b u t i o n P r o b a b i l i t y

J a r q u e - B e r a 2 . 4 2 1 3 2 1 )2(2 0 . 2 9 8 0 0

Q – s t a t ( 6 ) 1 7 . 2 0 9 )6(2 0 . 0 0 9

L M ( 6 ) 1 6 . 3 0 7 5 6 )6(2 0 . 0 1 2 1 9 5

A R C H ( 6 ) 5 . 8 9 3 9 6 1 )6(2 0 . . 4 3 5 1 7 3

W h i t e 3 5 . 7 5 5 1 1 )8(2 0 . 0 0 0 0 3 0


T a b l e 2 D o m e s t i c i n f l a t i o n e q u a t i o n

D e p e n d e n t v a r i a b l e : tp


S a m p l e : 1 9 9 7 : 0 2 2 0 0 1 : 0 3

I n s t r u m e n t a l v a r i a b l e s : '

11

ttttt epiyp


0 0 . 0 1 3 9 3 6 0 . 0 1 0 6 7 1 1 . 3 0 5 9 4 0 0 . 1 9 8 1

1 3 . 3 2 1 2 9 7 5 . 6 5 4 1 1 0 0 . 5 8 7 4 1 3 0 . 5 5 9 8

2 0 . 4 2 2 0 7 3 0 . 1 7 9 3 9 1 2 . 3 5 2 8 0 8 0 . 0 2 3 0

3 0 . 3 1 4 5 8 0 0 . 0 3 8 1 2 1 8 . 2 5 2 1 6 2 0 . 0 0 0 0

2R = 0 . 7 6 3 2 5 3 S t d . E r r o r = 0 . 0 2 0 6 4 5 D W = 1 . 5 7 1 6 3 7


J a r q u e - B e r a 2 . 9 5 8 6 6 1 )2(2 0 . 2 2 7 7 9 0

Q – s t a t ( 6 ) 8 . 6 1 9 4 )6(2 0 . 1 9 6

L M ( 6 ) 5 . 8 4 6 2 7 1 )6(2 0 . 4 4 9 6 3 0

A R C H ( 6 ) 2 . 8 2 6 4 4 5 )6(2 0 . . 8 3 0 2 9 3

W h i t e 7 . 2 0 3 1 9 7 )6(2 0 . 3 0 2 4 6 4


T a b le 3 M o n e y s u p p l y e q u a t i o n

D e p e n d e n t v a r i a b le : tm - tr


S a m p le : 1 9 9 7 : 0 2 2 0 0 1 : 0 3

I n s t r u m e n t a l v a r i a b le s : '

11

ttttt epiyp


0 - 0 . 0 2 3 1 0 7 0 . 0 1 7 1 6 9 - 1 . 3 4 5 8 6 2 0 . 1 8 4 8

1 - 0 . 2 4 8 6 4 5 0 . 2 2 5 1 9 4 - 1 . 1 0 4 1 3 7 0 . 2 7 5 2

2 0 . 2 7 5 5 4 6 0 . 0 5 7 9 0 0 4 . 7 5 8 9 9 2 0 . 0 0 0 0

2R = 0 . 4 0 0 2 6 4 S t d . E r r o r = 0 . 0 9 2 3 2 9 D W = 1 . 5 4 7 7 6 0


J a r q u e - B e r a 6 . 2 9 1 8 2 1 )2(2 0 . 0 4 3 0 2 6

Q – s t a t ( 6 ) 6 . 4 8 4 8 )6(2 0 . 3 7 1

L M ( 6 ) 8 . 7 0 5 1 6 1 )6(2 0 . 1 9 0 8 5 1

A R C H ( 6 ) 1 . 7 9 4 8 4 0 )6(2 0 . 9 3 7 5 6 7

W h i t e 3 . 1 2 9 8 5 8 )4(2 0 . 5 3 6 3 6 4

PRACTICAL CONSIDERATIONS (1)PRACTICAL CONSIDERATIONS (1)

the coefficients needed to determine the conversion factor are:the coefficients needed to determine the conversion factor are:

250988.22 422073.02 24845.01

35998.0250988.2422073.0)24845.01(

1

)1(

1

221

the conversion factor consistent with our model is:the conversion factor consistent with our model is:

alternative measure for the conversion factor (Eichengreen, alternative measure for the conversion factor (Eichengreen, Rose and Wyplosz (1995)):Rose and Wyplosz (1995)):

2/1

)var(

)var(

t

t

r

e

772183.0088751.0

068532.0

-0.4

-0.2

0.0

0.2

0.4

97:01 97:07 98:01 98:07 99:01 99:07 00:01 00:07 01:01

EMP_W EMP_ERW DE

PRACTICAL CONSIDERATIONS (2)PRACTICAL CONSIDERATIONS (2)

the academy of economic studies bucharest doctoral school of banking and finance dissertation paper...

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