Market-reaction-adjusted optimal central bank intervention policy in a forex market with jumps

Sandun Perera (), Winston Buckley and Hongwei Long
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Sandun Perera: University of Michigan–Flint
Winston Buckley: Bentley University
Hongwei Long: Florida Atlantic University

Annals of Operations Research, 2018, vol. 262, issue 1, No 11, 213-238

Abstract: Abstract Impulse control with random reaction periods (ICRRP) is used to derive a country’s optimal foreign exchange (forex) rate intervention policy when the forex market reacts to the interventions. This paper extends the previous work on ICRRP by incorporating a multi-dimensional jump diffusion process to model the state dynamics, and hence, enhance the viability of the extant model for applications. Furthermore, we employ a novel minimum cost operator that simplifies the computations of the optimal solutions. Finally, we demonstrate the efficacy of our framework by finding a market-reaction-adjusted optimal central bank intervention (CBI) policy for a country. Our numerical results suggests that market reactions and the jumps in the forex market are complements when the reactions increase the forex rate volatility; otherwise, they are substitutes.

Keywords: Optimal central-bank/government intervention policy; Financial market reactions; Jump diffusions; Stochastic control (search for similar items in EconPapers)
Date: 2018
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Citations: View citations in EconPapers (6)

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DOI: 10.1007/s10479-016-2297-y

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