Working Paper: NBER ID: w23206
Authors: Joel Hasbrouck; Richard M. Levich
Abstract: Using a new and unique data set of foreign currency settlement instructions provided by CLS Bank, we investigate activity and liquidity in the foreign exchange market. In the major currency pairs, CLS settlement volume shares are similar to those reported in the BIS triennial surveys. They are also similar to shares computed from EBS trade data reported by Mancini, Ranaldo and Wrampelmeyer (2013) (MRW), but only for currency pairs that do not belong to the “UK Commonwealth” pairs, for which EBS coverage is limited. \nWe estimate Amihud (2002) illiquidity ratios from CLS submissions and Olsen price records, and examine the correlations between these ratios and price impact estimates based on high frequency EBS data and reported by MRW. The correlation is 0.748, but with marginal statistical significance and only when the commonwealth pairs are excluded from the analysis. When the commonwealth pairs are included, the correlation drops to -0.130 (insignificant). We believe that, as with the volume estimates, this reflects EBS’ limited coverage of the commonwealth currency pairs. The common liquidity factor in our illiquidity ratios constructed from all major pairs is highly correlated, however, with the factor based only on non-commonwealth pairs, suggesting that liquidity factors constructed from EBS data may be good proxies for factors based on broader samples. \nOur data include numerical identifiers for counterparties to each trade which allows us to estimate market concentration by currency pair. We find that trading is more concentrated (across participants) in less actively traded currencies, which typically exhibit lower liquidity.
Keywords: No keywords provided
JEL Codes: F31; G12; G15; G23
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| CLS settlement volume shares (G24) | accuracy of liquidity measures derived from CLS data (E41) |
| illiquidity ratios from CLS submissions (G33) | price impact estimates from EBS data (C82) |
| liquidity factors constructed from EBS data (E50) | broader liquidity measures based on CLS data (E50) |
| market concentration (L11) | liquidity levels (G33) |
| limited coverage of EBS for Commonwealth pairs (F36) | correlation between illiquidity ratios and price impacts (G33) |