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Episodic Nonlinearity in Leading Global Currencies

Listed author(s):
  • Serletis, Apostolos

    (University of Calgary)

  • Malliaris, Anastasios

    (Loyola University of Chicago)

  • Hinich, Melvin

    (The University of Texas at Austin)

  • Gogas, Periklis

    ()

    (Democritus University of Thrace, Department of International Economic Relations and Development)

We perform non-linearity tests using daily data for leading currencies that include the Australian dollar, British pound, Brazilian real, Canadian dollar, euro, Japanese yen, Mexican peso, and the Swiss franc to resolve the issue of whether these currencies are driven by fundamentals or exogenous shocks to the global economy. In particular, we use a new method of testing for linear and nonlinear lead/lag relationships between time series, introduced by Brooks and Hinich (1999), based on the concepts of cross-correlation and cross-bicorrelation. Our evidence points to a relatively rare episodic nonlinearity within and across foreign exchange rates. We also test the validity of specifying ARCH-type error structures for foreign exchange rates. In doing so, we estimate Bollerslevs (1986) general- ized ARCH (GARCH) model and Nelsons (1988) exponential GARCH (EGARCH) model,using a variety of error densities [including the normal, the Student-t distribution, and the Generalized Error Distribution (GED)] and a comprehensive set of diagnostic checks. We apply the Brooks and Hinich (1999) nonlinearity test to the standardized residuals of the optimal GARCH/EGARCH model for each exchange rate series and show that the nonlinearity in the exchange rates is not due to ARCH-type e¤ects. This result has important implications for the interpretation of the recent voluminous literature which attempts to model fi nancial asset returns using this family of models.

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File URL: http://utopia.duth.gr/~pgkogkas/duthwp/3-2010.pdf
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Paper provided by Democritus University of Thrace, Department of Economics in its series DUTH Research Papers in Economics with number 3-2010.

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Length: 27 pages
Date of creation: 07 Jun 2010
Handle: RePEc:ris:duthrp:2010_003
Contact details of provider: Postal:
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Web page: http://www.econ.duth.gr/

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