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Deviations from covered interest rate parity and capital outflows: The case of Switzerland

Author

Listed:
  • Albi Tola
  • Miriam Koomen
  • Amalia Repele

Abstract

We investigate the relationship between deviations from the covered interest rate parity (CIP) and Swiss capital outflows since the great financial crisis. While the CIP held tightly before the crisis, it has been failing for most currencies vis-à-vis the US dollar ever since. We expect CIP deviations to adversely affect outflows, as they generally result in additional costs for Swiss investors. We find empirical support for our hypothesis. Our results show that with increasing CIP deviations, Swiss portfolio investment debt outflows decrease significantly. This decrease could have implications for the demand for domestic currency investments.

Suggested Citation

  • Albi Tola & Miriam Koomen & Amalia Repele, 2020. "Deviations from covered interest rate parity and capital outflows: The case of Switzerland," Working Papers 2020-08, Swiss National Bank.
  • Handle: RePEc:snb:snbwpa:2020-08
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    References listed on IDEAS

    as
    1. Robin Koepke, 2019. "What Drives Capital Flows To Emerging Markets? A Survey Of The Empirical Literature," Journal of Economic Surveys, Wiley Blackwell, vol. 33(2), pages 516-540, April.
    2. Stefan Avdjiev & Wenxin Du & Cathérine Koch & Hyun Song Shin, 2019. "The Dollar, Bank Leverage, and Deviations from Covered Interest Parity," American Economic Review: Insights, American Economic Association, vol. 1(2), pages 193-208, September.
    3. Stock, James H & Wright, Jonathan H & Yogo, Motohiro, 2002. "A Survey of Weak Instruments and Weak Identification in Generalized Method of Moments," Journal of Business & Economic Statistics, American Statistical Association, vol. 20(4), pages 518-529, October.
    4. Baba, Naohiko & Packer, Frank, 2009. "Interpreting deviations from covered interest parity during the financial market turmoil of 2007-08," Journal of Banking & Finance, Elsevier, vol. 33(11), pages 1953-1962, November.
    5. Ahmed, Shaghil & Zlate, Andrei, 2014. "Capital flows to emerging market economies: A brave new world?," Journal of International Money and Finance, Elsevier, vol. 48(PB), pages 221-248.
    6. Newey, Whitney & West, Kenneth, 2014. "A simple, positive semi-definite, heteroscedasticity and autocorrelation consistent covariance matrix," Applied Econometrics, Publishing House "SINERGIA PRESS", vol. 33(1), pages 125-132.
    7. Brophy, Thomas & Herrala, Niko & Jurado, Raquel & Katsalirou, Irene & Le Quéau, Léa & Lizarazo, Christian & O’Donnell, Seamus, 2019. "Role of cross currency swap markets in funding and investment decisions," Occasional Paper Series 228, European Central Bank.
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    More about this item

    Keywords

    Covered interest rate parity; cross-currency basis; dollar funding; capital flows; portfolio investments;

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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