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Financial amplification of foreign exchange risk premia

  • Tobias Adrian
  • Erkko Etula
  • Jan J. J. Groen

Theories of systemic risk suggest that financial intermediaries’ balance-sheet constraints amplify fundamental shocks. We provide supporting evidence for such theories by decomposing the U.S. dollar risk premium into components associated with macroeconomic fundamentals and a component associated with financial intermediaries’ balance sheets. Relative to the benchmark model with only macroeconomic state variables, balance sheets amplify the U.S. dollar risk premium. We discuss applications to systemic risk monitoring.

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Paper provided by Federal Reserve Bank of New York in its series Staff Reports with number 461.

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Date of creation: 2010
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Handle: RePEc:fip:fednsr:461
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  1. Shin, Hyun Song & Adrian, Tobias, 2008. "Financial intermediaries, financial stability and monetary policy," Proceedings - Economic Policy Symposium - Jackson Hole, Federal Reserve Bank of Kansas City, pages 287-334.
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  18. Adrian, Tobias & Etula, Erkko & Shin, Hyun Song, 2015. "Risk appetite and exchange rates," Staff Reports 750, Federal Reserve Bank of New York.
  19. Caballero, Ricardo J. & Krishnamurthy, Arvind, 2004. "Smoothing sudden stops," Journal of Economic Theory, Elsevier, vol. 119(1), pages 104-127, November.
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  22. Markus K. Brunnermeier & Stefan Nagel & Lasse H. Pedersen, 2008. "Carry Trades and Currency Crashes," NBER Working Papers 14473, National Bureau of Economic Research, Inc.
  23. Tobias Adrian & Hyun Song Shin, 2008. "Financial intermediary leverage and value at risk," Staff Reports 338, Federal Reserve Bank of New York.
  24. Fama, Eugene F., 1984. "Forward and spot exchange rates," Journal of Monetary Economics, Elsevier, vol. 14(3), pages 319-338, November.
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  28. Tobias Adrian & Erkko Etula, 2010. "Funding liquidity risk and the cross-section of stock returns," Staff Reports 464, Federal Reserve Bank of New York.
  29. Jushan Bai, 2003. "Inferential Theory for Factor Models of Large Dimensions," Econometrica, Econometric Society, vol. 71(1), pages 135-171, January.
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  33. Adrian, Tobias & Crump, Richard K. & Moench, Emanuel, 2013. "Pricing the term structure with linear regressions," Journal of Financial Economics, Elsevier, vol. 110(1), pages 110-138.
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  35. Korinek, Anton, 2011. "Systemic risk-taking: amplification effects, externalities, and regulatory responses," Working Paper Series 1345, European Central Bank.
  36. Tobias Adrian & Emanuel Moench & Hyun Song Shin, 2010. "Financial intermediation, asset prices, and macroeconomic dynamics," Staff Reports 422, Federal Reserve Bank of New York.
  37. Tyler Muir & Erkko Etula & Tobias Adrian, 2011. "Broker-Dealer Leverage and the Cross-Section of Stock Returns," 2011 Meeting Papers 1448, Society for Economic Dynamics.
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