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Foreign exchange intervention as a signal of monetary policy

  • Michael W. Klein
  • Eric S. Rosengren

Recent experience with exchange rate management has rekindled interest in the efficacy of foreign exchange intervention. While there is broad evidence that sterilized intervention has no effect on the exchange rate through a portfolio balance channel, less evidence exists on the signalling role of intervention. This article considers the signalling role of intervention for the United States and West Germany between the 1985 Plaza Accord and the October 1987 stock market crash. ; An examination of the data shows that intervention observed by the foreign exchange market did not precede changes in monetary policy in a proximate or consistent fashion. Thus the study concludes that, after the fact, intervention was not a signal of subsequent monetary policy. The study also explores the possibility that during this period participants in the foreign exchange market viewed intervention as a signal. While the daily response of the change in the deutsche mark/dollar exchange rate showed a significant effect of intervention in the early part of this sample period, the effect eroded over time as monetary authorities failed to back up intervention with monetary policy.

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File URL: http://www.bostonfed.org/economic/neer/neer1991/neer391c.pdf
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Article provided by Federal Reserve Bank of Boston in its journal New England Economic Review.

Volume (Year): (1991)
Issue (Month): May ()
Pages: 39-50

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Handle: RePEc:fip:fedbne:y:1991:i:may:p:39-50
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  1. Charles Engel & Anthony P. Rodrigues, 1987. "Tests of International CAPM with Time-Varying Covariances," NBER Working Papers 2303, National Bureau of Economic Research, Inc.
  2. Kathryn M. Dominguez & Jeffrey Frankel, 1990. "Does Foreign Exchange Intervention Matter? Disentangling the Portfolio and Expectations Effects for the Mark," NBER Working Papers 3299, National Bureau of Economic Research, Inc.
  3. Dallas S. Batten & Daniel L. Thornton, 1983. "Discount rate changes and the foreign exchange market," Working Papers 1983-016, Federal Reserve Bank of St. Louis.
  4. Frankel, Jeffrey A., 1982. "In search of the exchange risk premium: A six-currency test assuming mean-variance optimization," Journal of International Money and Finance, Elsevier, vol. 1(1), pages 255-274, January.
  5. Rogoff, Kenneth, 1984. "On the effects of sterilized intervention : An analysis of weekly data," Journal of Monetary Economics, Elsevier, vol. 14(2), pages 133-150, September.
  6. Lewis, Karen K., 1988. "Inflation risk and asset market disturbances: The mean-variance model revisited," Journal of International Money and Finance, Elsevier, vol. 7(3), pages 273-288, September.
  7. Brown, Kathleen Hope, 1981. "Effects of Changes in the Discount Rate on the Foreign Exchange Value of the Dollar: 1973 to 1978," The Quarterly Journal of Economics, MIT Press, vol. 96(3), pages 551-58, August.
  8. White, Halbert, 1980. "A Heteroskedasticity-Consistent Covariance Matrix Estimator and a Direct Test for Heteroskedasticity," Econometrica, Econometric Society, vol. 48(4), pages 817-38, May.
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