Breaking the trilemma: the effects of financial regulations on foreign assets

David Perez-Reyna and Mauricio Villamizar-Villegas

No 718, BIS Working Papers from Bank for International Settlements

Abstract: In this paper we analyze the effects of financial constraints on the exchange rate through the portfolio balance channel. Our contribution is twofold: First, we construct a tractable two-period general equilibrium model in which financial constraints inhibit capital flows. Hence, departures from the uncovered interest rate parity condition are used to explain the effects of sterilized foreign exchange intervention. Second, using high frequency data during 2004-2015, we use a sharp policy discontinuity within Colombian regulatory banking limits to empirically test for the portfolio balance channel. Consistent with our model's postulations, our findings suggest that the effects on the exchange rate are short-lived, and significant only when banking constraints are binding.

Keywords: liquidity dependence; macro-financial linkages; Smooth Transition Bayesian VAR (search for similar items in EconPapers)
JEL-codes: C32 G2 O16 (search for similar items in EconPapers)
Pages: 28 pages
Date: 2018-05
New Economics Papers: this item is included in nep-dge and nep-mon
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Related works:
Journal Article: Exchange rate effects of financial regulations (2019)
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Persistent link: https://EconPapers.repec.org/RePEc:bis:biswps:718

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