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Company Law

Notes
Many central banks would argue that their main aim is to limit exchange rate volatility
rather than to meet a specific target for the level of the exchange rate. Yet others would
counter that it is better to abstain from intervention in the foreign exchange market: such
a stance would, they contend, make investors more aware of the need to hedge their own
exposures, and this would help the market in hedging instruments to develop. The papers
from Israel, Mexico, Poland and Thailand are particularly relevant in this regard. There is
indeed some evidence that exchange rate volatility has fallen a lot in some countries
where the central bank has not intervened in recent years. The papers from Korea and
Peru highlight the existence of a policy trade-off where there are reasons to intervene to
dampen volatility yet intervention may involve moral hazard with respect to market
development.
The survey reported in Mihaljek’s paper shows that many emerging market central banks
view intervention as effective in influencing the exchange rate consistent with their
objectives. Part of this may be attributable to cases in which fixed or targeted exchange
rate regimes are in place: under such a regime, monetary policy actions are primarily
dictated by what is needed to achieve and maintain the exchange rate target, intervention
in the foreign exchange market is automatic or nearly so, and the exchange rate peg has
proved reasonably durable. The papers from Hong Kong SAR and Saudi Arabia illustrate
the point.
Formal econometric research has usually thrown doubt on the conclusion of effectiveness
of intervention in flexible exchange rate cases although, as noted, such research often
conflates interventions for different purposes. In addition, the effectiveness of intervention
is likely to depend on the specific circumstances - studies of effectiveness on average do
not answer the question of when intervention is likely to be successful.
Disyatat and Galati’s paper surveys the available empirical evidence, and presents new
evidence for the Czech koruna (the methodology requires detailed daily data on
intervention and option prices, which were only available for the Czech Republic). The
authors’ new estimates tentatively suggest the existence of a cumulative effect from repeated
intervention (although the mechanism is not clear). In the group of countries surveyed,
there are several examples of repeated interventions over lengthy periods. In this
connection, the paper from Venezuela makes the interesting point that intervention might
have diminishing power with repetition.
It remains possible that greater apparent effectiveness of intervention in emerging market
cases simply reflects different structural characteristics. Emerging market economies tend
to have less substitutability of assets across currency boundaries, and the authorities tend
to have greater financial - and certainly regulatory - weight relative to their private
markets. Mihaljek’s paper shows clearly that emerging market economies typically hold
very large reserves compared with market turnover, even if interventions are not in
general large relative to turnover. And several of the country papers describe the application
of regulatory measures to obtain influence over the exchange rate.
Questions
1. What do you think intervention is effective for emerging market. (Hint: Yes)
2. What is the effect of intervention on global economy. (Hint: It provides more
opportunities)

Source: BIS paper no 24

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