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Risk, Monetary Policy and the Exchange Rate

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  • Gianluca Benigno
  • Pierpaolo Benigno
  • Salvatore Nisticò

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

Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 17133.

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Date of creation: Jun 2011
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Publication status: published as Gianluca Benigno & Pierpaolo Benigno & Salvatore Nistic�, 2012. "Risk, Monetary Policy, and the Exchange Rate," NBER Macroeconomics Annual, University of Chicago Press, vol. 26(1), pages 247 - 309.
Handle: RePEc:nbr:nberwo:17133

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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. Yusuf Soner Başkaya & Timur H�lag� & Hande K���k, 2013. "Oil Price Uncertainty in a Small Open Economy," IMF Economic Review, Palgrave Macmillan, Palgrave Macmillan, vol. 61(1), pages 168-198, April.
  3. Mumtaz, Haroon & Theodoridis, Konstantinos, 2012. "The international transmission of volatility shocks: an empirical analysis," Bank of England working papers 463, Bank of England.
  4. Bacchetta, Philippe & van Wincoop, Eric, 2012. "Sudden Spikes in Global Risk," CEPR Discussion Papers, C.E.P.R. Discussion Papers 8853, C.E.P.R. Discussion Papers.
  5. 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.
  6. 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.

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