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Have Exchange Rates Become More Closely Tied? Evidence from a New Multivariate GARCH Model

Author

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  • Klaassen, F.J.G.M.

    (Tilburg University, Center For Economic Research)

Abstract

We analyze the time-dependence of exchange rate correlations using a new multivariate GARCH model. This model consists of two parts. First, we transform the exchange rate changes into their principal components and specify univariate GARCH models for all components. Second, we use the inverse of the principal components construction to transform the condi- tional component moments back into those of the exchange rate changes themselves. The model is easy to estimate, as it requires only univariate GARCH estimations. Nevertheless, it outperforms the popular constant conditional correlations and factor GARCH models. We find that the ma- jor U.S. dollar exchange rates have become more loosely instead of closely tied since the eighties.

Suggested Citation

  • Klaassen, F.J.G.M., 1999. "Have Exchange Rates Become More Closely Tied? Evidence from a New Multivariate GARCH Model," Discussion Paper 1999-10, Tilburg University, Center for Economic Research.
  • Handle: RePEc:tiu:tiucen:af43cd1c-9656-4e45-bfd1-f60ece37551b
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Isabel Ruiz, 2009. "Common volatility across Latin American foreign exchange markets," Applied Financial Economics, Taylor & Francis Journals, vol. 19(15), pages 1197-1211.
    2. David McMillan, 2001. "Common stochastic volatility trend in European exchange rates," Applied Economics Letters, Taylor & Francis Journals, vol. 8(9), pages 605-608.
    3. Marcus Pramor & Natalia T. Tamirisa, 2006. "Common Volatility Trends in the Central and Eastern European Currencies and the Euro," IMF Working Papers 06/206, International Monetary Fund.
    4. Mónica Fuentes & Sergio Godoy, 2005. "Sovereign Spread in Emerging Markets: A Principal Component Analysis," Working Papers Central Bank of Chile 333, Central Bank of Chile.
    5. David G. McMillan & Isabel Ruiz, 2009. "Volatility dynamics in three euro exchange rates: correlations, spillovers and commonality," International Journal of Financial Markets and Derivatives, Inderscience Enterprises Ltd, vol. 1(1), pages 64-74.
    6. Oxana Babetskaia-Kukharchuk & Ian Babetskii & Jiri Podpiera, 2008. "Convergence in exchange rates: market's view on CE-4 joining EMU," Applied Economics Letters, Taylor & Francis Journals, vol. 15(5), pages 385-390.
    7. David McMillan & Isabel Ruiz & Alan Speight, 2010. "Correlations and spillovers among three euro rates: evidence using realised variance," The European Journal of Finance, Taylor & Francis Journals, vol. 16(8), pages 753-767.

    More about this item

    Keywords

    Correlations; multivariate models; GARCH; factor models; exchange rates;

    JEL classification:

    • C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes; State Space Models
    • C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
    • F31 - International Economics - - International Finance - - - Foreign Exchange

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