The volatility impact of the European monetary system on member and non-member currencies

Michael Hu, Christine Jiang and Christos Tsoukalas

Applied Financial Economics, 2004, vol. 14, issue 5, 313-325

Abstract: The objective of the European Monetary System (EMS) is to increase the coherence of its member economies and to facilitate the process towards the European Monetary Union. One major element in the process has been the coordinated effort in reducing the volatility of the member currencies through the Exchange Rate Mechanism (ERM). To the same end, the Basle-Nyborg agreement of the European Union (EU) central bankers aims at strengthening the credibility of the EMS through providing credit facilities for intramarginal interventions. In this paper, the impact that the establishment of the EMS and the ratification of the Basle-Nyborg agreement had on the exchange rates of all EU currencies is studied. A multivariate GARCH(1,1) model is applied to all EU exchange rates in three subperiods: from January 1975 to the establishment of the EMS (March 1979); from March 1979 to the Basle-Nyborg agreement (September 1987); and from September 1987 to October 1991. Comparisons of the estimated parameters are performed across subperiods and between EMS and non-EMS currencies. The characteristics of the estimated conditional variances across subperiods are further examined with nonparametric tests. The findings suggest that the EMS and, especially, the Basle-Nyborg agreement have stabilized the European currencies.

Date: 2004
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DOI: 10.1080/0960310042000211588

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