Volatility (Dis)Connect in International Markets

Ric Colacito, Mariano Croce, Yang Liu and Ivan Shaliastovich

No 17101, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Lack of co-movement between consumption differentials and real exchange rates is a traditional indicator of a disconnect of foreign exchange markets from economic fundamentals. We present novel evidence for the (dis)connect between the volatilities, as opposed to the levels, of these variables. The volatility correlations are below one, but they are larger than the level correlations. In the cross-section of countries, the volatility disconnect weakens for countries with low amount of expected growth risk and high amount of volatility risk. We provide an explanation of our empirical findings based on international risk-sharing of both expected growth and volatility news shocks.

Keywords: Volatility risk; Foreign exchange disconnect; Risk sharing (search for similar items in EconPapers)
JEL-codes: C62 F31 G12 (search for similar items in EconPapers)
Date: 2022-03
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