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Risk, Monetary Policy, and the Exchange Rate

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  • Gianluca Benigno
  • Pierpaolo Benigno
  • Salvatore Nistic�

Abstract

In this research, we provide new empirical evidence on the importance of time-varying uncertainty for the exchange rate and the excess return in currency markets. Following an increase in monetary policy uncertainty, the dollar exchange rate appreciates in the medium run, while an increase in the volatility of productivity leads to a dollar depreciation. We propose a general-equilibrium theory of exchange rate determination based on the interaction between monetary policy and time-varying uncertainty aimed at understanding these regularities. In the model, the behaviour of the exchange rate following nominal and real volatility shocks is consistent with the empirical evidence. Furthermore we show that risk factors and interest-rate smoothing are important in accounting for the negative coefficient in the UIP regression.

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Bibliographic Info

Article provided by University of Chicago Press in its journal NBER Macroeconomics Annual.

Volume (Year): 26 (2012)
Issue (Month): 1 ()
Pages: 247 - 309

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Handle: RePEc:ucp:macann:doi:10.1086/663993

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Web page: http://www.journals.uchicago.edu/MA/

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Cited by:
  1. Gianluca Benigno & Pierpaolo Benigno & Salvatore Nisticò, 2010. "Second-Order Approximation of Dynamic Models with Time-Varying Risk," CEP Discussion Papers dp1033, Centre for Economic Performance, LSE.
  2. Enzo Cassino & David Oxley, 2013. "How Does the Exchange Rate Affect the Real Economy? A Literature Survey," Treasury Working Paper Series 13/26, New Zealand Treasury.
  3. Martín Uribe, 2011. "Comment on "Risk, Monetary Policy and the Exchange Rate"," NBER Chapters, in: NBER Macroeconomics Annual 2011, Volume 26, pages 315-324 National Bureau of Economic Research, Inc.
  4. Yusuf Soner Baskaya & Timur Hulagu & Hande Kucuk, 2013. "Oil Price Uncertainty in a Small Open Economy," Working Papers 1309, Research and Monetary Policy Department, Central Bank of the Republic of Turkey.
  5. Bacchetta, Philippe & van Wincoop, Eric, 2012. "Sudden Spikes in Global Risk," CEPR Discussion Papers 8853, C.E.P.R. Discussion Papers.
  6. Mumtaz, Haroon & Theodoridis, Konstantinos, 2012. "The international transmission of volatility shocks: an empirical analysis," Bank of England working papers 463, Bank of England.

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