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Determinants and Dynamics of Price Disparity in Onshore and Offshore Renminbi Forward Exchange Rate Markets

Author

Listed:
  • Ka-Fai Li

    (Hong Kong Monetary Authority)

  • Cho-Hoi Hui

    (Hong Kong Monetary Authority and Hong Kong Institute for Monetary Research)

  • Tsz-Kin Chung

    (Hong Kong Monetary Authority)

Abstract

Price disparities between the renminbi onshore deliverable forward and offshore non-deliverable forward exchange rates is an intriguing puzzle in financial economics. This paper investigates the determinants of these price disparities focusing on the possibility of parameter uncertainty. In the presence of information asymmetry and market segmentation among onshore and offshore investors, it is possible that they formulate different views on the Mainland economy which translate into a different assessment of the outlook for Mainland interest rates. Through a no arbitrage condition that relates the forward rate to the spot rate and interest rate differential, a different assessment of the path of interest rates can lead to a different valuation of forward prices. We estimate a term structure model for the implied renminbi interest rate using a Bayesian approach, in which investors¡¯ model parameter uncertainty is represented by the posterior standard deviation of the volatility of the interest rate. We show that parameter uncertainty can help to explain price disparities, in addition to market-wide aggregate uncertainty and illicit capital flows in the Mainland¡¯s balance of payment.

Suggested Citation

  • Ka-Fai Li & Cho-Hoi Hui & Tsz-Kin Chung, 2012. "Determinants and Dynamics of Price Disparity in Onshore and Offshore Renminbi Forward Exchange Rate Markets," Working Papers 242012, Hong Kong Institute for Monetary Research.
  • Handle: RePEc:hkm:wpaper:242012
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Löchel, H. & Packham, N. & Walisch, F., 2016. "Determinants of the onshore and offshore Chinese government yield curves," Pacific-Basin Finance Journal, Elsevier, vol. 36(C), pages 77-93.
    2. Funke, Michael & Shu, Chang & Cheng, Xiaoqiang & Eraslan, Sercan, 2015. "Assessing the CNH–CNY pricing differential: Role of fundamentals, contagion and policy," Journal of International Money and Finance, Elsevier, vol. 59(C), pages 245-262.
    3. repec:eee:intfin:v:49:y:2017:i:c:p:173-183 is not listed on IDEAS
    4. Joseph E. Gagnon & Kent Troutman, 2014. "Internationalization of the Renminbi: The Role of Trade Settlement," Policy Briefs PB14-15, Peterson Institute for International Economics.
    5. Xu, Hai-Chuan & Zhou, Wei-Xing & Sornette, Didier, 2017. "Time-dependent lead-lag relationship between the onshore and offshore Renminbi exchange rates," Journal of International Financial Markets, Institutions and Money, Elsevier, vol. 49(C), pages 173-183.
    6. repec:eee:jimfin:v:86:y:2018:i:c:p:223-243 is not listed on IDEAS
    7. Cheung, Yin-Wong & Hui, Cho-Hoi & Tsang, Andrew, 2018. "The RMB central parity formation mechanism: August 2015 to December 2016," Journal of International Money and Finance, Elsevier, vol. 86(C), pages 223-243.

    More about this item

    Keywords

    Price Disparity; Renminbi Forward Exchange Rates; Onshore and Offshore Markets; Spot Rate Model;

    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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