Publication of 2 discussion papers by Daan Steeenkamp

Publication of 2 discussion papers by Daan Steeenkamp on exchange rate movements

Two discussion papers by Daan Steenkamp have been published on the Reserve Bank’s website.

DP2017/02: Explosiveness in G11 currencies

Non-technical summary

One definition of a `bubble' in an asset price is that the price exhibits explosive (i.e. exponential) dynamics. Econometric tests for explosiveness have been widely used in assessing the behaviour of asset prices such as stocks and housing. The tests developed by Phillips et al. (2015a) and Phillips et al. (2015b) provide an accurate way to gauge whether asset prices are experiencing explosive dynamics. These tests have not previously been applied to exchange rates at a high frequency. This paper applies tests for explosiveness to eleven of the most commonly traded exchange rates at a daily frequency and over a long sample. The volatility of exchange rates tends to be high at a daily frequency. This volatility can weaken the power of these tests to discriminate between periods when an exchange rate is explosive and ones where it is not. To address this, a wild bootstrapping technique is used to assess the statistical significance of the test results. The results suggest that bouts of explosiveness in exchange rates are uncommon at a daily frequency. However, periods of explosiveness tend to last for several days. Such episodes only involve small changes in actual currency levels, which usually reverse shortly after. To identify the currency that is experiencing explosive dynamics in a currency pair, the tests are also applied to effective exchange rates of different currencies as these capture the broad value of a specific currency. There is strong similarity between explosive periods in the broad value of the US dollar exchange rate and cross-rates, suggesting that there are relatively few instances where explosiveness in individual currencies reflected country-specific factors. There is also evidence that explosive episodes have tended to coincide with periods of high market volatility.

DP2017/03: How bubbly is the New Zealand dollar?

Non-technical summary

Policymakers are interested in understanding the variability of exchange rates and whether changes in exchange rates reflect developments in their theoretical drivers or whether they reflect `bubble' behaviour. In this paper an asset price bubble is defined as a situation where an asset price exhibits explosive (i.e. exponential) dynamics. This paper tests for explosiveness in the New Zealand dollar and assesses whether any rapid exchange rate changes have been accompanied by explosive changes in macroeconomic fundamentals. There are many exchange rate models that could be used to define the fundamental value of the exchange rate. Rather than take a stand on the determination of the value of the New Zealand dollar or its fundamental value at a given point in time, this paper applies tests for explosiveness to three commonly used models of the underlying value of the exchange rate. Based on monthly and quarterly data, there is no evidence of episodes when either the New Zealand dollar or its fundamentals were explosive.

The papers are available for download at http://www.rbnz.govt.nz/research-and-publications/discussion-papers .

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