Series: Working Papers. 9606.
Author: Malte Krüger
Exchange rates
- Business investment
- Financial markets
- International trade
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Abstract
In this study it is attempted to estimate the amount of speculation in foreign exchange markets. Such an estimate is hard to make because it is theoretically as well as empirically difficult to delimititate speculation in relation to other activities. In particular, the distinction between speculation and hedging is highly problematic. Notwithstanding these difficulties it is shown how the composition of gross flows can be used to derive information about speculation and hedging.
In an extensive analysis of the interconnections of various fx market activities it is shown that hedging may generate large short-term capital flows which cannot be easily distinguished from speculation. The size of these flows does not only depend on capital and trade flows but also on net and gross stocks of foreign assets and liabilities.
Based on these findings, an analysis of capital flows between Spain and the rest of the world shows that a larger part than earlier believed of the capital outflows during the EMS crisis may have been due to hedging. The second case study which focuses on Japan reveals remarkable changes in the behaviour of Japanese and/or foreign investors.
What are the implications for economic policy? The study highlights the significance of stocks of open fx positions of foreigners and residents. If ihese stocks have been accumulating over many years, any crisis of confidence may trigger large outflows due to hedging, the size of which may by far be more important than the potential amount of speculation. Such hedging activities would hardly be deterred by a Tobin-tax or similar devices.