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Macroeconomic determinants of carry trade activity

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  • Alessio Anzuini

    ()
    (Bank of Italy)

  • Fabio Fornari

    ()
    (European Central Bank)

Abstract

From a financial standpoint, the mechanics of the carry trade has been recently examined in Brunnermeier et al. (2009). They showed that shocks to interest rate differentials lead to carry trade activity and to significant reactions in the bilateral exchange rates vis-a-vis the US dollar that they analyse. Starting from their paper, we take a more macroeconomic standpoint and aim to identify what kind of structural shock can generate the implications of their interest rate differential shock. To this aim we add two macroeconomic variables and two indicators of confidence to the 4-variable financial VAR of Brunnermeier et al. (2009) and use sign restrictions on the impulse responses of the resulting larger VAR to identify four macroeconomic shocks. We evidence that demand shocks and confidence shocks are associated with longer-term gains from carry trade activity, relative to supply and monetary policy shocks. This finding also supports the widely reported idea that sentiment boosts position taking.

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Bibliographic Info

Paper provided by Bank of Italy, Economic Research and International Relations Area in its series Temi di discussione (Economic working papers) with number 817.

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Date of creation: Sep 2011
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Handle: RePEc:bdi:wptemi:td_817_11

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Keywords: carry trade; speculative activity; sign restriction.;

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Cited by:
  1. Hutchison, Michael & Sushko, Vladyslav, 2013. "Impact of macro-economic surprises on carry trade activity," Journal of Banking & Finance, Elsevier, vol. 37(4), pages 1133-1147.

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