IDEAS home Printed from https://ideas.repec.org/p/wsr/wpaper/y2010i044.html
   My bibliography  Save this paper

Conventions in the Foreign Exchange Market:Do they really explain Exchange Rate Dynamics?

Author

Listed:
  • Gabriele Di Filippo

Abstract

The present paper provides a new explanation for the dynamics of exchange rates based on conventions that prevail among market participants. The model relies on a two states Markov switching framework: a bull state and a bear state. In the bull state, agents are optimistic and put more weight on positive news about the domestic economy inducing an appreciation of the domestic currency. In the bear state, agents are pessimistic and overweight negative news associated to the domestic economy leading to a depreciation of the domestic currency. Results show that market switches between a bull state and a bear state explain the dynamics of the euro/dollar exchange rate between January 1995 and December 2008. Besides, the model highlights the life-cycle of conventions in the foreign exchange market and provides lessons for public authorities to reduce exchange rate volatility. Eventually, the model offers a solution to the exchange rate disconnection puzzle.

Suggested Citation

  • Gabriele Di Filippo, 2010. "Conventions in the Foreign Exchange Market:Do they really explain Exchange Rate Dynamics?," FIW Working Paper series 044, FIW.
    • Handle: RePEc:wsr:wpaper:y:2010:i:044
    as

    Download full text from publisher

    File URL: http://www.fiw.ac.at/fileadmin/Documents/Publikationen/Working_Paper/N_044-DiFilippo.pdf
    File Function: full text
    Download Restriction: none
    ---><---

    More about this item

    Keywords

    Exchange Rate Dynamics; Convention Theory; Imperfect;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • F31 - International Economics - - International Finance - - - Foreign Exchange

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:wsr:wpaper:y:2010:i:044. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    We have no bibliographic references for this item. You can help adding them by using this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: the person in charge (email available below). General contact details of provider: .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.