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Target Zone Interventions and Coordination of Expectations

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  • Stefan Reitz
  • Frank Westerhoff

Abstract

Foreign exchange markets regularly display severe bubbles. This paper explores whether or not so-called target zone interventions are an effective tool for central banks to stabilize the exchange rate. We define such intervention operations as buying/selling an undervalued/overvalued currency when the distance between the exchange rate and its fundamental value exceeds a critical threshold value. On the basis of a non-linear empirical exchange rate model with chartists and fundamentalists, we find that target zone interventions not only have the power to reduce misalignments but also earn profits

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File URL: http://repec.org/sce2004/up.20522.1075113444.pdf
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Bibliographic Info

Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2004 with number 11.

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Date of creation: 11 Aug 2004
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Handle: RePEc:sce:scecf4:11

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Related research

Keywords: technical and fundamental analysis; heterogeneous agents; central bank intervention; target zone;

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  1. Hommes, C.H., 2000. "Financial Markets as Nonlinear Adaptive Evolutionary Systems," CeNDEF Working Papers 00-03, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance.
  2. LeBaron, Blake & Arthur, W. Brian & Palmer, Richard, 1999. "Time series properties of an artificial stock market," Journal of Economic Dynamics and Control, Elsevier, vol. 23(9-10), pages 1487-1516, September.
  3. Blake LeBaron, 1996. "Technical Trading Rule Profitability and Foreign Exchange Intervention," NBER Working Papers 5505, National Bureau of Economic Research, Inc.
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  7. J. Doyne Farmer & Shareen Joshi, 2000. "The price dynamics of common trading strategies," Papers cond-mat/0012419, arXiv.org.
  8. Frank Westerhoff & Cristian Wieland, . "Exchange rate dynamics, central bank interventions and chaos control methods," Modeling, Computing, and Mastering Complexity 2003 22, Society for Computational Economics.
  9. Reitz, Stefan & Westerhoff, Frank, 2003. "Nonlinearities and Cyclical Behavior: The Role of Chartists and Fundamentalists," CFS Working Paper Series 2003/10, Center for Financial Studies (CFS).
  10. Brock, William A. & Hommes, Cars H., 1998. "Heterogeneous beliefs and routes to chaos in a simple asset pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 22(8-9), pages 1235-1274, August.
  11. Saacke, Peter, 2002. "Technical analysis and the effectiveness of central bank intervention," Journal of International Money and Finance, Elsevier, vol. 21(4), pages 459-479, August.
  12. Lux, T. & M. Marchesi, . "Volatility Clustering in Financial Markets: A Micro-Simulation of Interacting Agents," Discussion Paper Serie B 437, University of Bonn, Germany, revised Jul 1998.
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  14. Hung, Juann H, 1997. "Intervention strategies and exchange rate volatility: a noise trading perspective," Journal of International Money and Finance, Elsevier, vol. 16(5), pages 779-793, September.
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Cited by:
  1. Athanasiou, George & Kotsios, Stelios, 2008. "An algorithmic approach to exchange rate stabilization," Economic Modelling, Elsevier, vol. 25(6), pages 1246-1260, November.
  2. Frank H. Westerhoff, 2008. "The Use of Agent-Based Financial Market Models to Test the Effectiveness of Regulatory Policies," Journal of Economics and Statistics (Jahrbuecher fuer Nationaloekonomie und Statistik), Justus-Liebig University Giessen, Department of Statistics and Economics, vol. 228(2+3), pages 195-227, June.

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