FX dealer constraints and external imbalances

Jantke de Boer and Stefan Eichler

No 1132, Ruhr Economic Papers from RWI - Leibniz-Institut für Wirtschaftsforschung, Ruhr-University Bochum, TU Dortmund University, University of Duisburg-Essen

Abstract: We empirically test Gabaix and Maggiori (2015)'s prediction that currencies are repriced by the country's external capital dependence when financial constraints of FX intermediaries change. Using solvency indicators, we develop a novel intermediary constraints index capturing riskbearing capacity. We find that constraints are a priced risk factor in currency portfolios sorted by countries' net foreign assets. Portfolios of external debtors (creditors) have higher (lower) intermediary risk premia, but pay lower (higher) returns when constraints tighten. Tightening constraints are associated with a depreciation of countries with low net foreign assets, particularly emerging markets with high net debt and low FX reserves.

Keywords: Foreign exchange; financial intermediation; net foreign assets (search for similar items in EconPapers)
JEL-codes: E44 F31 F32 F37 G12 G15 (search for similar items in EconPapers)
Date: 2024
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:rwirep:311303

DOI: 10.4419/96973314

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