exchange rate volatility and export growth in nigeria this article examines the impact of exchange rate volatility on nigeria s exports to its most important trading partner the united states over the quarterly period january 1980 to april 2001 using cointegration and vector error correction vecm framework empirical tests indicate the presence of a unique cointegrating vector linking real exports real foreign income relative export prices and real exchange rate volatility in the long run furthermore the results show that increases in the volatility of the real exchange rate raise uncertainty about profits to be made which exert significant negative effects on exports both in the short and long run our results also show that improvements in the terms of trade represented by declines in the real exchange rate and real foreign income exert positive effects on export activity most importantly we found that the trade liberalization and economic reform policies implemented in the post 1986 structural adjustment period contributed to nigeria s export

fundamental indexation via smoothed cap weights if prices of individual stocks are unbiased but noisy approximations to fundamental values there will be a gap in returns between the standard cap weighted market portfolio and the one based on fundamentals the discrepancy occurs because relative to fundamentals cap weights are too large small for stocks with positive negative deviations from fundamental values it follows that the usual cap weighted portfolio will underperform relative to the fundamental based portfolio as long as prices revert to fundamental values this has led arnott et al to propose new market indices based on a firm s fundamental size as measured by its revenues number of employees and so on in this paper we follow the same principle but propose to estimate fundamental weights using a smoothed average of standard cap weights since the putative excess returns of a fundamentalsweighted portfolio requires reversion to fundamental values and because fundamental values are likely to change slowly we can estimate current fundamentals by smoothing the time series of a stock s noisy prices the determination of fundamental size in terms of accounting data is thereby replaced by a simple estimate based on price history we derive expressions for expected returns of the market capitalization based and fundamentals based portfolios under various assumptions about i the random deviations from fundamental values and ii the change in fundamentals over time we present empirical comparisons between portfolios and find the returns of the fundamentalsbased portfolios exceed the standard indices by an amount comparable to the prior estimates that used accounting data to determine size 2007 elsevier b v all rights reserved

the behavior of option price around large block transactions in the underlying security this paper investigates the behavior of stock and option prices around block trades in stocks the results indicate that for both uptick and downtick block trades the stock prices adjust within a fifteen minute period after the block trade moreover for uptick blocks there is no evidence of any stock price reaction before the block trade however the adjustment of stock price for downtick blocks begins about fifteen minutes before the block trade we also find that option price behavior differs considerably from stock price behavior specifically our results suggest that options exhibit abnormal price behavior starting thirty minutes before the block and ending one hour after the block the pattern is more pronounced for downtick blocks and for put options we interpret this abnormal price behavior of options before the block trade as consistent with intermarket frontrunning this paper compares the price effect of block transactions in the stock market with the price effect in the derivative options market the analysis is motivated by the suggestion in the literature that options provide a superior investment vehicle because of their inherent leverage and lower transaction costs and because of their ability to avoid stock market restrictions on short sales this implies that informed investors may prefer to trade in options thereby causing the option market to lead the stock market

nominal income targeting in an open economy optimizing model abstract this paper presents simulation results regarding the performance of nominal income targeting a monetary policy rule that sets interest rates in response to deviations of nominal gdp growth from a target path the macroeconomic model is one in which agents solve dynamic optimization problems with rational expectations but in an environment with slow price adjustments in the present version consumption choices reflect habit formation and the economy is open to international flows of goods and securities when calibrated to quarterly us data the model s results suggest that nominal income targeting performs well in relation to inflation targeting and taylor rules

some empirical evidence on the effects of shocks to monetary policy on exchange rates this paper investigates the effects of shocks to u s monetary policy on exchange rates we consider three measures of these shocks orthogonalized shocks to the federal funds rate orthogonalized shocks to the ratio of nonborrowed to total reserves and changes in the romer and romer index of monetary policy in sharp contrast to the literature we find substantial evidence of a link between monetary policy and exchange rates specifically according to our results a contractionary shock to u s monetary policy leads to i persistent significant appreciations in u s nominal and real exchange rates and ii significant persistent deviations from uncovered interest rate parity in favor of u s interest rates

real exchange rates and relative prices an empirical investigation abstract this paper uncovers a striking empirical regularity the consumer price of a good relative to a different good within a country tends to be much less variable than the price of that good relative to a similar good in another country this fact seems to hold for all goods except very simple homogeneous products models of real exchange rates are likely to have predictions regarding this relation so this fact may provide a useful gauge for discriminating among models

price rigidities and the relative ppp abstract we measure the proportion of real exchange rate movements accounted for by cross country movements in relative reset prices prices that changed since the previous period using cpi microdata for five countries relative reset prices account for almost all of the real exchange rate movements this is a challenge for most workhorse sticky price models used to generate volatile and persistent real exchange rates in which relative reset prices are sluggish models where movements in relative wages are persistent and track the nominal exchange rate do replicate both the empirical properties of the real exchange rate and of relative reset prices

interest rate volatility and home mortgage loans the us economy has experienced substantial fluctuations in real and nominal interest rates since the 1970s this article investigates empirically the relationship between home mortgage loans and volatility in mortgage rates for the period 1971 02 to 2003 03 contrary to common wisdom we find a positive relationship between mortgage rate volatility and home mortgage loans further investigation indicates that this is due to volatility in the bond market in times of high interest volatility households disinvest in government securities and invest in real assets which yields a positive relationship between mortgage rate volatility and home mortgage loans

the interrelation of stock and options market trading volume data this research empirically investigates the relation between common stock and call option trading volumes the paper hyothesizes and tests a sequential flow of information between the stock and option markets if information trading for cboe listed firms is predominantly accomplished through option trading then existing research methodologies may be biased against finding any significant economic consequences in those instances where option listing is an important variable results indicate that trading in call options leads trading in the underlying shares with a one day lag black 2 suggests that information traders may prefer trading in options rather than shares due to economic incentives provided by reduced transaction costs capital requirements and trading restrictions and due to the greater action afforded by option trading manaster and rendleman 12 empirically support black s 2 option information trading preference finding incremental information content in option prices up to twenty four hours prior to its reflection in stock prices jennings and starks 10 report that the stock price adjustment process upon arrival of new information differs for those firms listed on the chicago board option exchange cboe and they demonstrate that stock price adjustment to new information occurs more rapidly for firms with listed call options the results in both papers appear to warrant consideration of an optiontrading variable in the design of empirical tests both manaster and rendleman 12 and jennings and starks 10 investigate the price relation between shares and call options this paper investigates trading volume copeland 4 posits the use of trading volume as a proxy for the rate of information arrival he concludes that the relation between absolute value of price changes and volume is positive and linear if one accepts a sequentialinformation arrival hypothesis as valid the present research hypothesizes and tests a sequential flow of information between the stock and option markets analyses presented are based on econometric tests for causality1 derived from the works of granger 6 and sims 22 if information trading takes place

exchange rate pass through exchange rate volatility and exchange rate disconnect abstract this paper explores the hypothesis that high volatility of real and nominal exchange rates may be due to the fact that local currency pricing eliminates the pass through from changes in exchange rates to consumer prices exchange rates may be highly volatile because in a sense they have little effect on macroeconomic variables the paper shows the ingredients necessary to construct such an explanation for exchange rate volatility in addition to the presence of local currency pricing we need a incomplete international financial markets b a structure of international pricing and product distribution such that wealth effects of exchange rate changes are minimized and c stochastic deviations from uncovered interest rate parity together it is shown that these elements can produce exchange rate volatility that is much higher than shocks to economic fundamentals and disconnected from the rest of the economy in the sense that the volatility of all other macroeconomic aggregates are of the same order as that of fundamentals

option prices as predictors of equilibrium stock prices the black scholes option pricing model modified for dividend payments is used to calculate jointly implied stock prices and implied standard deviations a comparison of the implied stock prices with observed stock prices reveals that the implied prices contain information regarding equilibrium stock prices that is not fully reflected in observed stock prices the implications of this finding are discussed this study investigates the role of call option prices as predictors of the equilibrium prices of their underlying stocks using the black scholes 3 bs model previous tests of the bs model have shown that the formula is highly successful in explaining the observed market prices of options see black and scholes 2 galai 8 chiras and manaster 6 and macbeth and merville 12 according to the model the option price is a function of the current value of the underlying stock the instantaneous variance of the stock s rate of return the time to maturity of the option the risk free rate of interest and the exercise price of the option 1 given an observed option price and known values of all input parameters to the bs model except the stock price one can determine the price of the underlying stock that equates the observed option price to its calculated value it follows from the underlying logic of the model that the implied price is the value of the underlying stock for which a continuously revised option bond portfolio would be a perfect substitute for the stock hence if options are actually priced according to the model implied stock prices will be the option market s assessment of equilibrium stock values previous empirical studies have assumed that observed stock prices are the relevant stock prices for option valuation however just as stock prices may differ in the short run from one exchange to another i e nyse midwest

interest rates and currency prices in a two country world abstract this paper is a theoretical study of the determination of prices interest rates and currency exchange rates set in an infinitely lived two country world which is subject both to stochastic endowment shocks and to monetary instability formulas are obtained for pricing all equity claims nominally denominated bonds and currencies and these formulas are related to earlier closely related results in the theories of money finance international trade

an exploration in the theory of exchange rate regimes three exchange rate regimes a float a one sided peg and a cooperative peg are evaluated and compared in terms of efficiency and welfare levels the framework of analysis embodies country specific monies with the money of each country being used to transact in its commodity markets and its currency denominated bonds welfare levels depend only on consumption levels in the presence of perfect foresight all equilibrium allocations are pareto efficient in a floating exchange rate regime the perfect foresight equilibrium allocation coincides with an equilibrium of a costless barter economy the same result holds in a one sided peg if the pegging country s exchange rate stabilizing authority breaks even over time in a cooperative peg regime there is a different equilibrium allocation for each combination of exchange rate levels and monetary policies problems of policy coordination and conflicts in desired monetary policies are discussed

currencies and the allocation of risk the welfare effects of a monetary union in a general equilibrium model with incomplete asset markets nominal securities and mean variance preferences a monetary union is desirable when the gain from eliminating excess volatility of nominal variables exceeds the cost of reducing the number of currencies with which to hedge risks copyright 1998 by american economic association

the yield curve in a small open economy abstract long term nominal interest rates in a number of inflation targeting small open economies have tended to be strongly correlated with those of the united states this observation has recently led support to the view that in these economies the long end of the yield curve has decoupled from its short end and naturally to a concern that monetary policy may have lost some of its autonomy we set up and estimate a two country small open economy model in which the expectations hypothesis and uncovered interest rate parity hold to study the co movement of long term nominal interest rates of different currencies we show that differences in the persistence of domestic and foreign disturbances a hypothesis for which we find support in recent data can explain the observed pattern of correlations these correlations are not evidence of weaker monetary policy

costly search and mutual fund flows this paper studies the flows of funds into and out of equity mutual funds consumers base their fund purchase decisions on prior performance information but do so asymmetrically investing disproportionately more in funds that performed very well the prior period search costs seem to be an important determinant of fund flows high performance appears to be most salient for funds that exert higher marketing effort as measured by higher fees flows are directly related to the size of the fund s complex as well as the current media attention received by the fund which lower consumers search costs

new directions for stochastic open economy models the paper develops a simple stochastic new open economy macroeconomic model based on sticky nominal wages explicit solution of the wage setting problem under uncertainty allows one to analyze the effects of the monetary regime on welfare expected output and the expected terms of trade despite the potential interplay between imperfections due to sticky wages and monopoly the optimal monetary policy rule has a closed form solution to motivate our model we show that observed correlations between terms of trade and exchange rates are more consistent with our traditional assumptions about nominal rigidities than with a popular alternative based on local currency pricing 2000 elsevier science b v all rights reserved

large block transactions the speed of response and temporary and permanent stock price effects abstract the paper investigates how quickly prices attain new equilibrium levels after large block transactions and measures the associated temporary and permanent price effects we find that prices adjust within at most three trades with most of the adjustment occurring in the first trade the temporary price effect for seller initiated transactions is related to block size but the temporary price effect observed for buyer initiated transactions is no larger than that observed in 100 share trades most of the price effect associated with block trades is permanent and is related to block size regardless of the initiating party

international trade and exchange rate volatility for currencies with well developed forward markets several papers have investigated the conjectured negative relationship between trade and short term exchange rate volatility without being very successful a theoretical explanation for the empirical anomalies is provided by solving explicitly for the forward rate because importers and exporters are on opposite sides of the forward market so is their exposure towards exchange rate volatility moreover which trade flow benefits and which one loses from increased volatility is determined by the signs of the aggregate net foreign currency exposure and the aggregate measure of risk aversion

monetary integration uncertainty and the role of money finance this paper considers the positive theory of monetary integration in a general equilibrium monetary model a role for money finance is presented which optimally reduces consumption variability when asset markets are incomplete importantly this role is independent of the aggregate money stock and so does not restrict inflation policy

international capital flows portfolio composition and the stability of external imbalances abstract this paper develops a simple and tractable model of net capital flows in which time varying gross country portfolios are an essential element in current account imbalances the main constituents of country portfolios in the model are general derivatives which could be interpreted as nominal bond assets and liabilities in particular under very weak conditions the world wealth distribution is stationary stationarity is generated by movements in derivative i e bond risk premia such that the return on a debtor country s gross liabilities is less than the return on its gross assets this is well known feature of the us international investment position we also provide suggestive evidence that a similar property holds more widely for a sample of advanced and emerging market countries

the effects of real exchange rate risk on international trade abstract by assuming real profit maximization and uncertain prices as well as exchange rates we conclude that it is uncertain percentage changes in the real exchange rate that are risky in international trade empirical estimation of fourteen bilateral trade flows among industrialized countries finds a significant negative effect on trade quantity from such risk in a number of these cases the expectation variable has a positive effect in a larger number of cases significant price effects from the expectation variable are fewer and from risk are negligible

efficiency with costly information a study of mutual fund performance 1965 1984 if information is costly to collect and implement then it is efficient for trades by informed investors to occur at prices sufficiently different from full information prices to compensate them for the cost of becoming informed this notion is tested by evaluating investment performance in the mutual fund industry over a 20 year period the study finds evidence that is consistent with optimal trading in efficient markets risk adjusted returns in the mutual fund industry net of fees and expenses are comparable to returns available in index funds and portfolio turnover and management fees are unrelated to fund performance

the use and abuse of mutual fund expenses prior research shows that mutual fund investors are often aware of up front charges like sales loads but they are less mindful of annual operating expenses even though both types of fees lower overall performance this study documents the historical trend and recent abuse of annual mutual fund expenses as the industry becomes more adept at segmenting customers by level of investment sophistication we claim that load mutual fund companies take advantage of this ability and charge higher expenses to their target customer the less knowledgeable investor no load fund companies which tend to attract the more sophisticated investor offer lower expenses for example over 2000 2004 the average annual expense ratio of load equity funds was 50 basis points higher than no load equity funds we show evidence of this widening cost disparity since the early 1990s among new and existing equity bond and index funds we also document a growing abuse of sales distribution or 12b 1 fees among funds that are closed to new investors almost all of which are load funds thus load fund investors are more susceptible to paying higher expenses and receiving lower returns over time

real exchange rate volatility and international trade a reexamination of the theory one of the issues that have received considerable attention in the comparison of the properties of alternative exchange rate regimes is the effect of exchange rate risk on the volume of trade it has been argued that the higher volatility of exchange rates witnessed since the adoption of the floating regime in 1973 has led to a decrease in international trade transactions this is because most trade contracts are not for immediate delivery of goods and since they are denominated in terms of the currency of either the importer or the exporter unanticipated fluctuations in the exchange rate affect realized profits and hence the volume of trade it is implicitly assumed that forward exchange markets that can help traders eliminate this type of variations in profits either are not available as it is true for the majority of currencies because most are not fully convertible thereby impairing forward markets or for some reason they are not utilized to fully hedge exchange risk present in trade transactions the empirical evidence regarding the effect of exchange rate risk on trade has at best been inconclusive the large majority of the empirical studies are unable to establish a systematically significant link between exchange rate variability and the volume of international trade whether on an aggregate or on a bilateral basis abrams 1 akhtar and hilton 2 cushman 4 5 6 and kenan and rodrik 12 find some significant negative effects of exchange volatility on exports however bailey tavlas and uhlan 3 hooper and kohlhagen 10 and an international monetary fund study 11 do not find any supporting evidence for the depressing effect of exchange rate volatility on international trade it is also interesting to note that in many of these studies a significant positive effect of exchange rate volatility on the volume of trade is found for some cases however the positive effect believed to be at odds with the theory was either ignored or dismissed as a perverse result since as far as volumes are concerned theoretical considerations

welfare and macroeconomic interdependence we develop a baseline model of monetary and fiscal transmission in interdependent economies the welfare effects of expansionary policies are related to monopolistic supply in production and monopoly power of a country in trade an unanticipated exchange rate depreciation can be beggar thyself rather than beggar thy neighbor as gains in domestic output are offset by deteriorating terms of trade smaller and more open economies are more prone to suffer from inflationary shocks larger economies benefit from moderate demand led expansions but may be worse off if policy makers attempt to close the output gap fiscal shocks are generally beggar thy neighbor in the long run in the short run they raise domestic demand at given terms of trade thus reducing the welfare benefits from monetary expansions analytical tractability makes our model uniquely suitable as a starting point to approach the recent new open economy macroeconomic literature

stock and option market divergence in the presence of noisy information we examine market behavior of the stock and option markets upon the arrival of noisy information in the form of cnbc s mad money recommendations if stock and option markets are not equally efficient they should respond differently to noisy information with the less efficient market more susceptible to noise we find that the stock market is less efficient than the option market the abnormal difference between option implied and actual stock returns is negative and significant upon exposure to noisy information this difference may yield an economically significant monthly trading profit of up to 5 we conclude that the stock market is more susceptible to noisy information than the option market and is therefore less efficient published by elsevier b v

welfare effects of a monetary union the role of trade openness this paper evaluates the welfare effects of a monetary union mu compared to a e oating exchange rate regime using a quantitative business cycle model of a two country world with sticky prices it is assumed that under a e oat there are shocks to the uncovered interest rate parity uip condition these shocks are shown to have a negative effect on welfare the detrimental effect is stronger the higher the degree of trade openness a mu eliminates uip shocks and it may thus raise welfare the welfare gain from mu is positively linked to openness jel e4 f3 f4

the exchange rate in a dynamic optimizing business cycle model with nominal rigidities a quantitative investigation this paper studies a quantitative dynamic optimizing business cycle model of a small open economy with staggered price and wage setting the model exhibits exchange rate overshooting in response to money supply shocks the predicted variability of the nominal and especially of the real exchange rate is noticeably higher than in standard real business cycle models with flexible prices and wages a positive domestic money supply shock is predicted to lower the domestic interest rate raise gdp and trigger a depreciation of both the nominal and real exchange rate increases in domestic productivity and in the world interest rate are also predicted to induce a nominal and real exchange rate depreciation 2001 elsevier science b v all rights reserved

explaining international comovements of output and asset returns the role of money and nominal rigidities abstract output and asset returns are highly positively correlated across the u s and the remaining major industrialized countries standard business cycle models that assume flexible prices and wages in the real business cycle rbc tradition have great difficulties explaining this fact this paper presents a dynamic optimizing stochastic general equilibrium model of a two country world with sticky nominal prices and wages the structure here generates cross country correlations of output and returns that are markedly higher and hence closer to the data than the cross country correlations that obtain when flexible prices and wages are assumed

effects of tobin taxes in minority game markets we show that the introduction of tobin taxes in agent based models of currency markets can lead to a reduction of speculative trading and reduce the magnitude of exchange rate fluctuations at intermediate tax rates in this regime revenues for the market maker obtained from speculators are maximal we here focus on minority game models of markets which are accessible by exact techniques from statistical mechanics results are supported by computer simulations our findings suggest that at finite systems sizes the effect is most pronounced in a critical region around the phase transition of the infinite system but much weaker if the market is operating far from criticality and does not exhibit anomalous fluctuations

disaggregate evidence on price stickiness and implications for macro models i introduction fashions that take hold of the field of macroeconomics share important characteristics with the economy its practitioners seek to understand approaches that are in vogue exhibit cycles with varying frequencies and amplitudes during the 1960s theories based on assumptions of widespread wage and price stickiness dominated the landscape the new classical macroeconomics that emerged in the 1970s challenged the preeminence of these keynesian theories and by the mid 1980s real business cycle theories assuming widespread price flexibility received a considerable portion of macroeconomists attention beginning in the early 1990s as reviewed by gordon 1990 mankiw 1990 and mankiw and romer 1991a 1991b a keynesian counterrevolution occurred and by the conclusion of the 1990s sticky price theories had regained much of their luster today as discussed by woodford 2003 price stickiness is a fundamental building block of numerous theories aimed at explaining both movements in domestic variables such as employment and real output and changes in international variables such as the trade balance and the current account there has as we discuss below been empirical work seeking to determine whether real world data might be consistent with the implications of macroeconomic theories with inflexible product prices there has been very little work however to determine whether the most influential approaches to testing the reasonableness of micro based models of price stickiness support the underlying assumption of widespread price rigidities at the micro level instead leading studies in the literature examine only aggregate data we find this quite surprising given that so many modern macroeconomic models consider economies populated with representative producers that establish an array of product prices that are fixed in the short run which in most models is commonly taken to be the current period of analysis are most product prices really sticky bils and klenow 2004 have addressed this question by studying the frequency of price adjustments for 123 categories of consumer goods and services their answer is that most prices in fact change relatively frequently with about half of prices changing roughly every 4 or 5 too although they found that the prices of certain services and what they call processed physical goods adjust more slowly their overall results offer relatively little support for sticky price models in this paper we also examine microeconomic data for the united states in contrast to bils and klenow however we examine industry level data on firm prices and costs we employ the empirical methodology proposed by the highly influential study by gali and gertler 1999 which in turn is based on the micro based analysis of imperfect competition and price stickiness proposed by calvo 1983 nevertheless our conclusions are broadly similar to those of bils and klenow overall we find that across the industries to which we are able to apply the gali gertler style approach no more than 43 of total sales are generated by industries with estimated periods of price adjustment of 6 quarters or more this percentage drops to below 23 when the discount factor is restricted to reasonable values and under these restrictions industries accounting for at least 36 of all sales in the industries we analyze have estimated price adjustment intervals of less than 2 quarters in all empirical approaches we consider unrestricted analyses producing estimates of industry specific discount factors at least 44 of total sales of the industries we consider are generated by industries with estimated price adjustment speeds of less than 1 yr furthermore in most specifications the unweighted average price adjustment interval for all industries is below 1 yr and the weighted average using industry shares of total sales as weights price adjustment interval for all specifications ranges from no higher than 3

exchange rate regimes and international trade evidence from the classical gold standard era in this paper we show that the spread of the classical gold standard in the late nineteenth century increased international trade flows this positive effect was compounded whenever a group of countries formed a monetary union applying the gravity model of trade to more than 1 100 country pairs during the 1870 1910 period we find that two countries on gold would trade 60 percent more with each other than with countries on a different monetary standard moreover a monetary union would more than double bilateral trade flows our findings are relevant for current discussions on alternative monetary arrangements for the twenty first century

are investors rational choices among index funds s p 500 index funds represent one of the simplest vehicles for examining rational behavior they hold virtually the same securities yet their returns differ by more than 2 percent per year although the relative returns of alternative s p 500 funds are easily predictable the relationship between cash flows and performance is weaker than rational behavior would lead us to expect we show that selecting funds based on low expenses or high past returns outperforms the portfolio of index funds selected by investors our results exemplify the fact that in a market where arbitrage is not possible dominated products can prosper

pass through of exchange rates and competition between floaters and fixers this paper studies how a rise in the share of u s imports from china or any country with a fixed exchange rate could disproportionately lower pass through of exchange rates to u s import prices we develop a theoretical model showing how changes in the competitive environment induce exporters from other countries to lower markups in response to a dollar depreciation thereby moderating pass through the model indicates that a particular local bias condition is necessary for this effect and that free entry amplifies it the model also produces an approximately log linear structural equation for pass through regressions including the china share panel regressions over 1993 2006 indicate that the rising share of trade from china or from all countries with fixed exchange rates can explain a decline in pass through by about onefifth of its size

exchange rate systems and macroeconomic stability abstract we examine macroeconomic stability and the properties of the international transmission of business cycles under three exchange rate systems a flexible a unilateral peg ems and a single currency emu the subjects of study are germany and france in france macroeconomic volatility under emu is comparable to that under a flexible exchange rate system but considerably lower than that under ems in germany output volatility is significantly higher under ems relative to the flexible regime and increases even further under emu inflation though becomes more stable emu also induces a strong negative international transmission of country specific supply shocks and amplifies their role this fact may complicate ecb policymaking

central bank independence revisited the case for central bank independence cbi while not a new one has been strengthened by a growing body of empirical evidence by recent developments in economic theory and by the temper of the times the case is a strong one 1 which is becoming part of the washington orthodoxy the purposes of this paper are both to make more precise the type of cbi that is likely to enhance economic performance and to point to some remaining open issues and anomalies i start with the two theoretical approaches to cbi

exchange rates and traded goods prices abstract this paper presents a partial equilibrium model of the determination of domestic and export prices by a monopolistic competitive firm the model stresses the role of exchange rate uncertainty and expectations the most important result of the analysis is that the stochastic properties of deviations from the law of one price are crucially affected by the currency of denomination of export prices using data on domestic and dollar export prices of japanese goods i find that deviations from the law of one price are due to exchange rate surprises but also to price staggering and ex ante price discrimination

business cycles and the exchange rate system some international evidence this paper investigates the differences in time series behavior of key economic aggregates under alternative exchange rate systems we use a postwar sample of 49 countries to compare the behavior of output consumption trade flows government consumption spending and real exchange rates under alternative exchange rate systems pegged floating and cooperative systems such as the ems we then examine evidence from two particular episodes involving canada and ireland of changes in the exchange rate system aside from greater variability of real exchange rates under flexible than under pegged nominal exchange rate systems we find little evidence of systematic differences in the behavior of macroeconomic aggregates or international trade flows under alternative exchange rate systems these results are of interest because a large class of theoretical models implies that the nominal exchange rate system has important effects on a number of macroeconomic quantities

monetary models of dollar yen euro nominal exchange rates dead or undead the predictions of the models were based on ex post realised values of the explanatory variables in other words the standard exchange rate models we estimated exhibited extremely poor out of sample fit 2 at the time these nihilistic results seemed quite radical since there was widespread optimism about the potential of monetary models especially sticky price monetary models to explain how flexible exchange rates function after all the main cornerstones of monetary exchange rate models were relatively noncontroversial long run purchasing power parity or some variant of ppp and a presumption that there is a strong long run connection between money growth and inflation today the meese and rogoff 1983a results no longer seem quite so crazy despite longer data sets on modern floating rates and the application of more sophisticated econometric techniques researchers have continued to find it very frustrating to firmly demonstrate any systematic relationship between exchange rates and macroeconomic fundamentals at least for the cross rates between the dollar dm euro and yen it is true that researchers have occasionally found particular sub samples where certain models seem to perform noticeably better than the random walk model but as a rule these results wilt under sustained out of sample testing surveying the evidence in their survey for the handbook of international economics frankel and rose 1995 conclude that numerous attempts to overturn the meese and rogoff 1983a results have failed

consumption real exchange rates and the structure of international asset markets abstract international real business cycle irbc models that assume complete asset markets yield strong restrictions for consumption and bilateral real exchange rate series empirical tests with data for the us japan france uk italy canada and sweden suggest that neither the trend behavior nor high frequency movements of consumption and real exchange rates are well explained by irbc models with complete markets it appears however that high frequency fluctuations of consumption and real exchange rates are consistent with unrestricted international trade in risk free bonds

incomplete pass through and the welfare effects of exchange rate variability abstract this paper considers the implications of incomplete exchange rate pass through for optimal monetary and exchange rate policy a two country model is presented which allows an explicit derivation of welfare functions in terms of a weighted sum of the second moments of producer prices and the nominal exchange rate from a single country perspective the optimal exchange rate variance depends on the degree of pass through the size and openness of the economy the elasticity of labour supply and the volatility of foreign producer prices welfare may be decreasing or increasing in the volatility of the exchange rate

international dimensions of optimal monetary policy abstract this paper provides a baseline general equilibrium model of optimal monetary policy among interdependent economies with monopolistic firms and nominal rigidities an inward looking policy of domestic price stabilization is not optimal when firms markups are exposed to currency fluctuations such a policy raises exchange rate volatility leading foreign exporters to charge higher prices vis a vis increased uncertainty in the export market as higher import prices reduce the purchasing power of domestic consumers optimal monetary rules trade off a larger domestic output gap against lower consumer prices optimal rules in a world nash equilibrium lead to less exchange rate volatility relative to both inward looking rules and discretionary policies even when the latter do not suffer from any inflationary or deflationary bias gains from international monetary cooperation are related in a non monotonic way to the degree of exchange rate pass through

does exchange rate stability increase trade and welfare we develop a simple general equilibrium framework to study the effect of the exchange rate system on trade and welfare an important feature of the model is deviations from purchasing power parity caused by rigid price setting in buyers currency we find the following first exchange rate stability is not necessarily associated with more trade in a simple benchmark model with separable preferences and only monetary shocks trade is unaffected by the exchange rate system consistent with most evidence second both trade and welfare can be higher under either exchange rate system depending on preferences and on the monetary policy rules followed under each system finally in general there is no one to one relationship between the levels of trade and welfare across exchange rate systems

macroeconomic effects of nominal exchange rate regimes new insights into the role of price dynamics abstract this paper analyzes the effects of pegged and floating exchange rates using a two country dynamic general equilibrium model that is calibrated to the us and a european aggregate the model assumes shocks to money productivity and the interest rate parity condition it captures the fact that the sharp increase in nominal exchange rate volatility after the end of the bretton woods bw system was accompanied by a commensurate rise in real exchange rate volatility but had no pronounced effect on the volatility of gdp this holds irrespective of whether flexible or sticky prices are assumed which casts doubt on the widespread view that the roughly equal post bw rise in nominal and real exchange rate volatility reflects price stickiness a flex prices variant of the model captures better the fact that the correlation between us and european gdp has been higher in the post bw era than under bw

nominal rigidity and monetary uncertainty in a small open economy temporary nominal rigidity is introduced into a dynamic stochastic general equilibrium model of a small open economy the foreign country is also modelled and is the closed economy counterpart of the domestic country we examine whether a small open economy is more vulnerable than a closed economy to uncertainty over its monetary policy a signal of an increase in future variability which was not previously foreseen as a risk by agents is shown to weaken the current exchange rate and boost current output in the small open economy in the equivalent closed economy it has no effect on current variables

excess capacity monopolistic competition and international transmission of monetary disturbances analyzes the excess capacity monopolistic competition and international transmission of monetary policy disturbances in the united states sheds light on the international impact of monetary policy emphasis on the spillover effects of monetary disturbances similarity of framework used with open economy macroeconomics

the index fund rationality paradox abstract mutual funds that track the s p 500 are popular because they have significantly lower costs than the average actively managed equity fund however a measurable number of investors select index funds with excessive fees and uncompetitive returns we call this observation the index fund rationality paradox because it conflicts with the belief that index fund investors are making a rational low cost choice in their type of fund decision in our analysis of this paradox we find that both retail and institutional index investors tended to make better choices in recent years but the cost of poor choices among both groups continues to be significant in fact we are able to identify an arguably naive group of retail investors that seem to be unduly influenced by brokers and financial advisors these investors are largely responsible for the remaining paradox

product differentiation search costs and competition in the mutual fund industry a case study of s p 500 index funds we investigate the role that non portfolio fund differentiation and information search frictions play in creating two salient features of the mutual fund industry the large number of funds and the sizeable dispersion in fund fees in a case study we find that despite the financial homogeneity of s p 500 index funds this sector exhibits the fund proliferation and fee dispersion observed in the broader industry we show how extra portfolio mechanisms explain these features these mechanisms also suggest an explanation for the puzzling late 1990s shift in sector assets to more expensive and often newly entered funds an influx of highinformation cost novice investors

an empirical analysis of the dynamic relationship between mutual fund flow and market return volatility abstract we study the dynamic relation between aggregate mutual fund flow and market wide volatility using daily flow data and a var approach we find that market volatility is negatively related to concurrent and lagged flow a structural var impulse response analysis suggests that shock in flow has a negative impact on market volatility an inflow outflow shock predicts a decline an increase in volatility from the perspective of volatility flow relation we find evidence of volatility timing for recent period of 1998 2003 finally we document a differential impact of daily inflow versus outflow on intraday volatility the relation between intraday volatility and inflow outflow becomes weaker stronger from morning to afternoon

uncertainty and export performance evidence from 18 countries we study a sample of nine developed and nine developing countries to evaluate the questions of how foreign income uncertainty and real exchange rate rer uncertainty impact international trade and how those impacts vary according to stage of development rer uncertainty has a negative and significant impact on export growth for six of the nine less developed countries in our sample while it has an insignificant effect for a majority of the developed countries in both groups foreign income uncertainty has a more pervasively significant and frequently larger influence on trade than does rer uncertainty

monetary rules for small open emerging economies abstract this paper develops a variant of the imf s global economic model suitable to analyze macroeconomic dynamics in open economies and uses it to assess the effectiveness of taylor rules and inflation forecast based ifb rules in stabilizing variability in output and inflation our findings suggest that a simple ifb rule that does not rely upon any direct estimates of the equilibrium real interest rate and places a relatively high weight on the inflation forecast may perform better in small open economies than conventional taylor rules

a new look at pass through abstract this paper examines the relationship between exchange rates and prices rather than assuming exchange rate changes are exogenous shocks that affect prices i use a long run restrictions var to identify shocks and explore the way domestic prices import prices and exchange rates react to a variety of shocks consumer price pass through is nearly complete in response to some shocks but low in response to others alternatively import prices and exchange rates typically respond in the same direction and pass through seems quick this supports the idea that import prices are set in the producer s currency and that lower cpi pass through is a result of changes in quantities or margins further down the supply chain

intraday price change and trading volume relations in the stock and stock option markets this study investigates intraday relations between price changes and trading volume of options and stocks for a sample of firms whose options traded on the cboe during the first quarter of 1986 after purging the price change series of the effects of bid ask spreads multivariate time series analysis is used to estimate the lead lag relation between the price changes in the option and stock markets the results indicate that price changes in the stock market lead the option market by as much as fifteen minutes the analysis of trading volume indicates that the stock market lead may be even longer the intense trading activity in and in fact the very existence of organized stock option markets attest to the economic benefits that these financial contracts provide reduced transaction costs and increased financial leverage are two reasons why trading in the stock option market may be more attractive than trading in the market for the underlying stock in addition these cheaper and more flexible trading opportunities attract new and differently informed investors to the marketplace the resulting increase in trading activity together with the inextricable arbitrage linkage between stock and option prices imply an increase in market efficiency this study investigates empirically the intraday price change and trading volume relations between stocks and options for a sample of firms whose options were actively traded on the chicago board options exchange during the first quarter of 1986 in particular intraday call option price changes are translated into implied stock price changes using the american call option pricing model these intraday implied stock price changes are then compared with the actual stock price changes to identify which if either market leads the other in perfectly functioning capital markets there should be complete simultaneity between the series that is new information disseminating into the marketplace should be reflected in the prices and the trading activity of both securities simultaneously institutional factors however may make the stock option market more attractive to information traders this may cause price changes and trading activity due to new information to be observed in the option market first followed by price

the monetary model of the exchange rate long run relationships short run dynamics and how to beat a random walk abstract the monetary model is re examined for the sterling dollar exchange rate first it is demonstrated using a multivariate cointegration technique that an unrestricted monetary model is a valid framework for analyzing the long run exchange rate second we find once proper account has been taken of the short run data dynamics that an unrestricted monetary model outperforms the random walk and other models in an out of sample forecasting contest jel f31

price changes of related securities the case of call options and stocks this paper tests the hypothesis that option prices contain information not reflected in con temporaneous stock prices an options transactions data base is used for the purpose the evidence suggests that the magnitude of anticipation of stock prices by option prices is insufficient to overcome the bid ask spread for intra day holding periods implications of the profits in the overnight holding periods are discussed

temporal patterns in foreign exchange returns and options although the foreign exchange market is believed to be one of the most efficient financial markets in the world there is significant evidence that technical analysis is profitable in this market in this study we investigate the ability of information from the options market to supplement the commonly used information on past prices to predict temporal patterns in foreign exchange returns we find that information from the options market improves the performance of technical trading strategies strategies using information from at the money options were more consistently profitable than the most commonly used strategies based on only historical spot exchange rates past prices our results hold out of sample as well as in the late nineties a period when few sources of information have proven reliable consequently options appear to contain valuable information regarding future spot exchange rate movements

has the euro changed the business cycle abstract in contrast to the notion that the exchange rate regime is non neutral there is little evidence that emu has systematically changed the european business cycle in fact we find the volatility of macroeconomic variables largely unchanged before and after the introduction of the euro exceptions are a strong decline in real exchange rate volatility and a considerable increase in cross country correlations to account for this finding we develop a two country business cycle model which is able to replicate key features of european data in particular the model correctly predicts a limited effect of emu on standard business cycles statistics however further analysis reveals that the euro has changed the nature of the cycle through its impact on the transmission mechanism cross country spillovers have become relatively more domestic shocks relatively less important in accounting for economic fluctuations under emu this explains why there is little change in unconditional volatilities

a positive theory of foreign currency debt abstract this paper makes a case for foreign currency debt as a hedging device in an open economy subject to stochastic shocks to output a government can reduce uncertainty in wealth and in consumption by issuing foreign or domestic currency debt if unexpected domestic and foreign inflation are negatively correlated with domestic output foreign currency debt is desirable in comparison to domestic currency debt if growth rates of output of both countries are closely related and if domestic inflation is relatively uncertain it has an additional advantage if domestic debt creates time consistency problems