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The Euro as an International Currency: Explaining Puzzling First Evidence

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  • Moore, Michael
  • Hau, Harald
  • Killeen, William

Abstract

This paper presents evidence that the bid-ask spreads in euro rates increased relative to the corresponding bid-ask spreads in the German mark (DM) prior to the currency union. This comes with a decrease in transaction volume in the euro rates relative to the previous DM rates. The starkest example is the DM(euro)/yen rate in which the spread has risen by almost two-thirds while the volume has almost halved. We propose a microstructure theory for a system of multiple exchange rates in which spreads are endogenously determined. It is argued that the elimination of cross rates due to the introduction of the euro reduced the intra-temporal risk sharing capacity of the multicurrency dealership market. A second explanation for the increase in the euro bid-ask spreads and the relative euro volume loss is based on an increase in the information content of order flow in euro rates relative to previous DM rates.

Suggested Citation

  • Moore, Michael & Hau, Harald & Killeen, William, 2000. "The Euro as an International Currency: Explaining Puzzling First Evidence," CEPR Discussion Papers 2510, C.E.P.R. Discussion Papers.
    • Handle: RePEc:cpr:ceprdp:2510
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    Citations

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    Cited by:

    1. Charles Goodhart & Ryan Love & Richard Payne & Dagfinn Rime, 2002. "Analysis of spreads in the dollar/euro and deutschemark/dollar foreign exchange markets," Economic Policy, CEPR;CES;MSH, vol. 17(35), pages 535-552.
    2. Gabriele Galati & Kostas Tsatsaronis, 2001. "The impact of the euro on Europe's financial markets," BIS Working Papers 100, Bank for International Settlements.
    3. Papaioannou, Elias & Portes, Richard & Siourounis, Gregorios, 2006. "Optimal currency shares in international reserves: The impact of the euro and the prospects for the dollar," Journal of the Japanese and International Economies, Elsevier, vol. 20(4), pages 508-547, December.
    4. Fischer, Andreas M., 2002. "Fluctuations in the Swiss Franc: What Has Changed Since the Euro's Introduction?," Journal of Public Policy, Cambridge University Press, vol. 22(2), pages 143-159, September.
    5. repec:zbw:bofitp:2001_011 is not listed on IDEAS
    6. Killeen, William P. & Lyons, Richard K. & Moore, Michael J., 2006. "Fixed versus flexible: Lessons from EMS order flow," Journal of International Money and Finance, Elsevier, vol. 25(4), pages 551-579, June.
    7. Ledenyov, Dimitri O. & Ledenyov, Viktor O., 2015. "Wave function method to forecast foreign currencies exchange rates at ultra high frequency electronic trading in foreign currencies exchange markets," MPRA Paper 67470, University Library of Munich, Germany.
    8. Kaul, Aditya & Sapp, Stephen, 2006. "Y2K fears and safe haven trading of the U.S. dollar," Journal of International Money and Finance, Elsevier, vol. 25(5), pages 760-779, August.
    9. Mr. Jorge I Canales Kriljenko, 2004. "Foreign Exchange Market Organization in Selected Developing and Transition Economies: Evidence from a Survey," IMF Working Papers 2004/004, International Monetary Fund.
    10. Heimonen, Kari, 2001. "Substituting a substitute currency: The case of Estonia," BOFIT Discussion Papers 11/2001, Bank of Finland Institute for Emerging Economies (BOFIT).
    11. Heimonen, Kari, 2001. "Substituting a substitute currency : The case of Estonia," BOFIT Discussion Papers 11/2001, Bank of Finland, Institute for Economies in Transition.
    12. Richard Portes, 2002. "The Euro and the International Financial System," Chapters, in: Marco Buti & André Sapir (ed.), EMU and Economic Policy in Europe, chapter 13, Edward Elgar Publishing.
    13. McGroarty, Frank & ap Gwilym, Owain & Thomas, Stephen, 2006. "Microstructure effects, bid-ask spreads and volatility in the spot foreign exchange market pre and post-EMU," Global Finance Journal, Elsevier, vol. 17(1), pages 23-49, September.

    More about this item

    Keywords

    Transaction costs; Spreads; Vehicle currency; Microstructure;
    All these keywords.

    JEL classification:

    • F33 - International Economics - - International Finance - - - International Monetary Arrangements and Institutions
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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