Exchange rate volatility predictability: A new insight from climate policy uncertainty

Lijuan Peng, Zhigang Pan, Chao Liang and Muhammad Umar

Economic Analysis and Policy, 2023, vol. 80, issue C, 688-700

Abstract: Against the background of growing concern about climate change, this study attempts to examine the impact of US climate policy uncertainty on exchange rate volatility. Specifically, this paper explores whether climate policy changes and their extreme observations, as well as the short-term asymmetry of exchange rate volatility, can help predict future exchange rate volatilities. The in-sample estimation results show that the uncertainty of US climate policy significantly affects the volatility of the US exchange rate, and extreme positive shocks of climate policy uncertainty have a greater impact on the exchange rate than extreme negative shocks of the same magnitude. In addition, we find significant asymmetries in the short-term components of exchange rate volatility, especially in the USD-CNY exchange rate and the USD-EUR exchange rate. Multiple out-of-sample forecasting tests show that models incorporating extreme values of climate policy uncertainty exhibit superior forecasting performance. Notably, the predictive performance of these models tends to be stronger during periods of low volatility and relatively weak during periods of high volatility. This paper provides valuable insights for stakeholders to make informed decisions and optimize strategies in the face of uncertain climate policies.

Keywords: Climate policy uncertainty; Exchange rate volatility; GARCH-MIDAS (search for similar items in EconPapers)
JEL-codes: C22 C53 F31 Q54 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (6)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:ecanpo:v:80:y:2023:i:c:p:688-700

DOI: 10.1016/j.eap.2023.09.017

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