US Monetary Policy, Exchange Rates, and Delayed Portfolio Adjustments

Sangyup Choi, Jongho Park and Kwangyong Park
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Jongho Park: Soongsil University
Kwangyong Park: Sogang University

No 2025rwp-240, Working papers from Yonsei University, Yonsei Economics Research Institute

Abstract: What accounts for cross-country heterogeneity in exchange rate responses to U.S. monetary policy shocks? Using high-frequency data around Federal Open Market Committe (FOMC) announcements, we document that countries with deeper financial markets—proxied by the size of foreign portfolio liabilities—experience larger currency depreciations following U.S. monetary tightening. This effect is particularly strong for forward guidance shocks relative to conventional interest rate surprises. To rationalize these findings, we extend the gradual portfolio adjustment model by introducing a forward-looking news shock and allowing portfolio adjustment costs to decline with financial market depth. The model replicates our empirical findings, offering a unified explanation for heterogeneous short-run exchange rate dynamics.

Keywords: Exchange rates; Monetary policy spillovers; Portfolio adjustment frictions; Forward guidance; Daily data (search for similar items in EconPapers)
JEL-codes: E52 F31 F41 G11 G17 (search for similar items in EconPapers)
Pages: 38pages
Date: 2025-04
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