Endogenous Exchange Rate Volatility, Trading Volume and Interest Rate Differentials in a Model of Portfolio Selection

May Hagiwara · Miguel A. Herce

22 citations0/0 files storedReview of International Economics

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Monetary Policy and Economic Impact Global Financial Crisis and Policies Financial Risk and Volatility Modeling

Abstract

This paper considers a portfolio model of exchange rate determination and focuses on endogenous sources of exchange rate volatility. It is shown that, in addition to volatility transmitted by conditionally heteroskedastic interest rates, the larger the serial correlation in interest rates the stronger the effect of interest rate differentials on exchange rate volatility. These features are supported by the data. The paper also looks at the volume–volatility relationship implied by the model.

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