International order flows: Explaining equity and exchange rate returns

Macroeconomic models of equity and exchange rate returns perform poorly at high frequencies. The proportion of daily returns that these models explain is essentially zero. Instead of relying on macroeconomic determinants, we model equity price and exchange rate behavior based on a concept from microstructure – order flow. The international order flows are derived from belief changes of different investor groups in a two-country setting. We obtain a structural relationship between equity returns, exchange rate returns and their relationship to home and foreign equity market order flow. To test the model we construct daily aggregate order flow data from 800 million equity trades in the U.S. and France from 1999 to 2003. Almost 60% of the daily returns in the S&P100 index are explained jointly by exchange rate returns and aggregate order flows in both markets. As predicted by the model, daily exchange rate returns and order flow into the French market have significant incremental explanatory power for the daily S&P returns. The model implications are also validated for intraday returns.

Solving exchange rate puzzles with neither sticky prices nor trade costs

We present a simple framework in which both the exchange rate disconnect and forward bias puzzles are simultaneously resolved. The flexible-price two-country monetary model is extended to include a consumption externality with habit persistence. Habitpersistence is modeled using Campbell Cochrane preferences with ‘deep’ habits along the lines of the work of Ravn, Schmitt-Grohe and Uribe. By deep habits, we mean habits defined over goods rather than countries. The model is simulated using the artificial economy methodology. It offers a neo-classical explanation of the Meese–Rogoff puzzle and mimics the failure of fundamentals to explain nominal exchange rates in a linear setting. Finally, the model naturally generates the negative slope in the standard forward market regression.

Purchasing power parity versus fixed exchange rate rules: A stability and welfare analysis

This paper evaluates the desirability of PPP rules vis-á-vis fixed exchange rates both in terms of welfare and stability properties. The analysis is conducted within a small open-economy New Keynesian framework extended to include a cost channel. In terms of stability, we find that while the equilibrium is always unique under fixed exchange rates its uniqueness critically depends upon the presence/absence of the cost channel under a PPP rule. Overall, then, in terms of welfare a fixed exchange rate always outperforms a PPP rule.

The Exchange Rate in a Dynamic-Optimizing Current Account Model with Nominal Rigidities: a Quantitative Investigation.

This paper studies a dynamic-optimizing model of a semi-small open economy with sticky nominal prices and wages. the model exhibits exchange rate overshooting in response to money supply shocks. the predicted variability of nominal and real exchange rates is roughly consistent with that of G7 effective exchange rates during the post-Bretton Woods era.

Piecemeal Oligopoly, Exchange Rate Uncertainty, and Trade Policy.

Este artículo analiza el efecto sistemático de la volatilidad de la tasa de cambio, cuando un gobierno local debe evaluar políticas comerciales estratégicas lineales y cuadráticas. Este ejercicio se realiza para modelos de mercado Cournot y Bertran. El modelo prueba que tanto el esquema lineal como el cuadrático tienen el mismo efecto sobre el bienestar social de los países, y que la volatilidad de la tasa de cambio domestica lleva a los gobiernos a reducir los subsidios a las exportaciones o bajan los impuestos a las exportaciones, de acuerdo a la variable estratégica elegida por las firmas. La tasa de cambio extranjera tiene diferentes efectos dependiendo de si las firmas producen bajos rendimientos a escalas constantes o decrecientes.