Working Paper: NBER ID: w2811
Authors: Torsten Persson; Lars E. O. Svensson
Abstract: In discussions about different international monetary arrangements it is often maintained that exchange rate variability has a negative influence on international trade and foreign investment. This paper addresses one specific aspect of this general issue, namely the effect of exchange rate variability on capital flows and international portfolio diversification. More precisely, we examine how different monetary policies -- and among those, policies that aim at stabilizing exchange rates -- determine the risk characteristics of nominal assets, and how these risk characteristics determine international portfolio composition and trade in assets, when international asset markets are incomplete.
Keywords: exchange rate variability; capital flows; international portfolio diversification
JEL Codes: F31; F33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Increased exchange rate variability (F31) | Decrease in capital flows (F32) |
| Different monetary policy rules (E52) | Influence on risk characteristics of nominal assets (G40) |
| Different monetary policy rules (E52) | Affect attractiveness for international investors (F21) |
| Policies stabilizing exchange rates (F31) | Less risky asset profiles (G11) |
| Less risky asset profiles (G11) | Increase in capital inflows (F32) |
| Incomplete nature of international asset markets (G15) | More pronounced effects of monetary policy on asset risk (E44) |