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Order Flow in the South: Anatomy of the Brazilian FX Market

  • Wu, Thomas
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Using a unique dataset that covers 100% of the Brazilian FX retail market, this paper contributes to the microstructure approach to exchange rates in at least four ways. First, we find a strict link between currency flows in the FX market and the Balance of Payments. Second, we develop an identication strategy in order to properly estimate the effect of customer order fl?ows on the exchange rate and ?find that dealers from the Brazilian FX market charge a premium of 0.03% in order to provide US$ 10 million of overnight liquidity. Third, we identify the nature of the feedback trading as "stabilizing"?: a 1% depreciation rate decreases the financial customer fl?ow by US$ 111 million and the commercial fl?ow by US$ 46 million. Finally, we find that the central bank sells in average US$ 28 million for each 1% depreciation in the exchange rate (lean-against-the-wind), and US$ 23 million for US$ 100 million of financial customer flow (liquidity provision).

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Paper provided by Center for International Economics, UC Santa Cruz in its series Santa Cruz Center for International Economics, Working Paper Series with number qt1k2250wj.

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Date of creation: 07 Nov 2006
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Handle: RePEc:cdl:scciec:qt1k2250wj
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  1. Hoidal Bjonnes, Geir & Rime, Dagfinn, 2003. "Dealer Behavior and Trading Systems in Foreign Exchange Markets," SIFR Research Report Series 17, Institute for Financial Research.
  2. Harald Hau & Helene Rey, 2002. "Exchange Rate, Equity Prices and Capital Flows," NBER Working Papers 9398, National Bureau of Economic Research, Inc.
  3. Geir Høidal Bjønnes & Dagfinn Rime & Haakon O. Aa. Solheim, 2004. "Liquidity provision in the overnight foreign exchange market," Discussion Papers 391, Statistics Norway, Research Department.
  4. Martin D.D. Evans & Richard K. Lyons, 1999. "Order Flow and Exchange Rate Dynamics," NBER Working Papers 7317, National Bureau of Economic Research, Inc.
  5. Hasbrouck, Joel, 1991. "The Summary Informativeness of Stock Trades: An Econometric Analysis," Review of Financial Studies, Society for Financial Studies, vol. 4(3), pages 571-95.
  6. Dominguez, Kathryn M.E., 2006. "When do central bank interventions influence intra-daily and longer-term exchange rate movements?," Journal of International Money and Finance, Elsevier, vol. 25(7), pages 1051-1071, November.
  7. Christopher A. Sims, 1986. "Are forecasting models usable for policy analysis?," Quarterly Review, Federal Reserve Bank of Minneapolis, issue Win, pages 2-16.
  8. Beine, Michel & Benassy-Quere, Agnes & MacDonald, Ronald, 2007. "The impact of central bank intervention on exchange-rate forecast heterogeneity," Journal of the Japanese and International Economies, Elsevier, vol. 21(1), pages 38-63, March.
  9. Oliver Hansch & Narayan Y. Naik & S. Viswanathan, 1998. "Do Inventories Matter in Dealership Markets? Evidence from the London Stock Exchange," Journal of Finance, American Finance Association, vol. 53(5), pages 1623-1656, October.
  10. Mintao Fan & Richard K. Lyons, 2003. "Customer trades and extreme events in foreign exchange," Chapters, in: Monetary History, Exchange Rates and Financial Markets, chapter 6 Edward Elgar Publishing.
  11. Lyons, Richard K., 1997. "A simultaneous trade model of the foreign exchange hot potato," Journal of International Economics, Elsevier, vol. 42(3-4), pages 275-298, May.
  12. Payne, Richard & Vitale, Paolo, 2003. "A transaction level study of the effects of central bank intervention on exchange rates," Journal of International Economics, Elsevier, vol. 61(2), pages 331-352, December.
  13. David W. Berger & Alain P. Chaboud & Sergey V. Chernenko & Edward Howorka & Jonathan H. Wright, 2006. "Order flow and exchange rate dynamics in electronic brokerage system data," International Finance Discussion Papers 830, Board of Governors of the Federal Reserve System (U.S.).
  14. Carol L. Osler, 2003. "Currency Orders and Exchange Rate Dynamics: An Explanation for the Predictive Success of Technical Analysis," Journal of Finance, American Finance Association, vol. 58(5), pages 1791-1820, October.
  15. Hasbrouck, Joel, 1991. " Measuring the Information Content of Stock Trades," Journal of Finance, American Finance Association, vol. 46(1), pages 179-207, March.
  16. Hellwig, Martin F., 1980. "On the aggregation of information in competitive markets," Journal of Economic Theory, Elsevier, vol. 22(3), pages 477-498, June.
  17. Payne, Richard, 2003. "Informed trade in spot foreign exchange markets: an empirical investigation," Journal of International Economics, Elsevier, vol. 61(2), pages 307-329, December.
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