IDEAS home Printed from https://ideas.repec.org/p/bis/biswps/267.html
   My bibliography  Save this paper

Interpreting deviations from covered interest parity during the financial market turmoil of 2007-08

Author

Listed:
  • Naohiko Baba
  • Frank Packer

Abstract

This paper investigates the spillover effects of money market turbulence in 2007-08 on the short-term covered interest parity (CIP) condition between the US dollar and the euro through the foreign exchange (FX) swap market. Sharp and persistent deviations from the CIP condition observed during the turmoil are found to be significantly associated with differences in the counterparty risk between European and US financial institutions. Furthermore, evidence is found that dollar term funding auctions by the ECB, supported by dollar swap lines with the Federal Reserve, have stabilized the FX swap market by lowering the volatility of deviations from CIP.

Suggested Citation

  • Naohiko Baba & Frank Packer, 2008. "Interpreting deviations from covered interest parity during the financial market turmoil of 2007-08," BIS Working Papers 267, Bank for International Settlements.
  • Handle: RePEc:bis:biswps:267
    as

    Download full text from publisher

    File URL: http://www.bis.org/publ/work267.pdf
    File Function: Full PDF document
    Download Restriction: no

    File URL: http://www.bis.org/publ/work267.htm
    Download Restriction: no

    Other versions of this item:

    References listed on IDEAS

    as
    1. Akram, Q. Farooq & Rime, Dagfinn & Sarno, Lucio, 2009. "Does the law of one price hold in international financial markets? Evidence from tick data," Journal of Banking & Finance, Elsevier, vol. 33(10), pages 1741-1754, October.
    2. John B. Taylor & John C. Williams, 2009. "A black swan in the money market," Proceedings, Federal Reserve Bank of San Francisco.
    3. Peek, Joe & Rosengren, Eric S., 2001. "Determinants of the Japan premium: actions speak louder than words," Journal of International Economics, Elsevier, vol. 53(2), pages 283-305, April.
    4. Covrig, Vicentiu & Low, Buen Sin & Melvin, Michael, 2004. "A Yen is Not a Yen: TIBOR/LIBOR and the Determinants of the Japan Premium," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 39(01), pages 193-208, March.
    5. Akram, Q. Farooq & Rime, Dagfinn & Sarno, Lucio, 2008. "Arbitrage in the foreign exchange market: Turning on the microscope," Journal of International Economics, Elsevier, pages 237-253.
    6. Craig Burnside & Martin Eichenbaum & Isaac Kleshchelski & Sergio Rebelo, 2011. "Do Peso Problems Explain the Returns to the Carry Trade?," Review of Financial Studies, Society for Financial Studies, vol. 24(3), pages 853-891.
    7. Darvas, Zsolt, 2009. "Leveraged carry trade portfolios," Journal of Banking & Finance, Elsevier, vol. 33(5), pages 944-957, May.
    8. Nelson, Daniel B, 1991. "Conditional Heteroskedasticity in Asset Returns: A New Approach," Econometrica, Econometric Society, vol. 59(2), pages 347-370, March.
    9. Patrick McGuire & Goetz von Peter, 2008. "International banking activity amidst the turmoil," BIS Quarterly Review, Bank for International Settlements, June.
    10. Naohiko Baba & Frank Packer & Teppei Nagano, 2008. "The spillover of money market turbulence to FX swap and cross-currency swap markets," BIS Quarterly Review, Bank for International Settlements, March.
    11. Jacob Gyntelberg & Philip Wooldridge, 2008. "Interbank rate fixings during the recent turmoil," BIS Quarterly Review, Bank for International Settlements, March.
    12. Nautz, Dieter & Schmidt, Sandra, 2009. "Monetary policy implementation and the federal funds rate," Journal of Banking & Finance, Elsevier, vol. 33(7), pages 1274-1284, July.
    13. repec:eee:jbfina:v:83:y:2017:i:c:p:135-152 is not listed on IDEAS
    14. Taylor, Mark P, 1989. "Covered Interest Arbitrage and Market Turbulence," Economic Journal, Royal Economic Society, vol. 99(396), pages 376-391, June.
    15. McAndrews, James & Sarkar, Asani & Wang, Zhenyu, 2017. "The effect of the term auction facility on the London interbank offered rate," Journal of Banking & Finance, Elsevier, vol. 83(C), pages 135-152.
    16. Claudio Borio & William Nelson, 2008. "Monetary operations and the financial turmoil," BIS Quarterly Review, Bank for International Settlements, March.
    17. Beine, Michel & Janssen, Gust & Lecourt, Christelle, 2009. "Should central bankers talk to the foreign exchange markets?," Journal of International Money and Finance, Elsevier, vol. 28(5), pages 776-803, September.
    18. Michael Ehrmann & Marcel Fratzscher, 2007. "Communication by Central Bank Committee Members: Different Strategies, Same Effectiveness?," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 39(2-3), pages 509-541, March.
    19. AfDB AfDB, . "AfDB Group Annual Report 2007," Annual Report, African Development Bank, number 63 edited by Koua Louis Kouakou.
    20. Duffie, Darrell & Huang, Ming, 1996. " Swap Rates and Credit Quality," Journal of Finance, American Finance Association, vol. 51(3), pages 921-949, July.
    21. Kotomin, Vladimir & Smith, Stanley D. & Winters, Drew B., 2008. "Preferred habitat for liquidity in international short-term interest rates," Journal of Banking & Finance, Elsevier, vol. 32(2), pages 240-250, February.
    22. William Dudley, 2008. "May you live in interesting times: the sequel," Proceedings 1071, Federal Reserve Bank of Chicago.
    23. François-Louis Michaud & Christian Upper, 2008. "What drives interbank rates? Evidence from the Libor panel," BIS Quarterly Review, Bank for International Settlements, March.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    FX swap; covered interest parity; financial market turmoil; counterparty risk; dollar swap lines; dollar term auction facility;

    NEP fields

    This paper has been announced in the following NEP Reports:

    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:bis:biswps:267. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Christian Beslmeisl). General contact details of provider: http://edirc.repec.org/data/bisssch.html .

    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.

    If CitEc recognized a reference but did not link an item in RePEc to it, you can help with 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.

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

    IDEAS is a RePEc service hosted by the Research Division of the Federal Reserve Bank of St. Louis . RePEc uses bibliographic data supplied by the respective publishers.