Monetary policy spillovers in emerging economies

Abstract

This paper explores for spillovers from monetary policy in the United States to a number of emerging market economies. We estimate the Elder and Serletis (2010) bivariate structural GARCH-in-Mean VAR in the U.S. monetary policy rate and the policy rate of each of six emerging economies that target the in ‡ation rate -Brazil, Chile, Mexico, Romania, Serbia, and South Africa. We also estimate the same model in the U.S. monetary policy rate and the exchange rate (against the U.S. dollar) of each of six emerging economies that target the exchange rate -Bosnia and Herzegovina, Bulgaria, Comoros, Croatia, the Former Yugoslav Republic of Macedonia, and Montenegro. Our evidence suggests that positive (negative) U.S. monetary policy shocks tend to appreciate (depreciate) the currencies of the exchange rate targeting emerging economies, but have an ambiguous e¤ect on the policy rates of the in ‡ation-targeting emerging economies. Moreover, monetary policy uncertainty in the United States leads to an increase in policy rates in those emerging economies that target the in ‡ation rate and to a depreciation of the currencies of those emerging economies that target the exchange rate.Notes: e 1% asymptotic critical value for both the ADF and PP tests is -4.022 for the series in panel A and -3.994 for the series in panel B. e 1% asymptotic critical value for the KPSS test is 0.216 for all the series.

COVID-19 and Exchange Rates: Spillover Effects of U.S. Monetary Policy

“…Although the reactions of domestic currencies were similar for advanced economies versus emerging markets during the pre-COVID-19 period, they were higher for advanced economies during the COVID-19 period. This result is also consistent with earlier studies (Georgiadis, 2016 ; Albagli et al, 2019 ; Azad & Serletis, 2020 ) which showed evidence for heterogeneity across countries regarding the spillover effects of U.S. monetary policy.…”

“…Regarding the spillover effects of U.S. monetary policy, domestic exchange rates (constructed as appreciation of currencies) increased for almost all countries during the pre-COVID-19 period represented by the year of 2019, except for Brazil, India, and Turkey for which the credible intervals included insignificant effects on exchange rates after one year. These results suggesting that there is evidence for the spillover effects of U.S. monetary policy are consistent with earlier studies (e.g., Maćkowiak, 2007 ; Georgiadis, 2016 ; Chen et al, 2016 ; Ho et al, 2018 ; Hanisch, 2019 ; Albagli et al, 2019 ; Azad & Serletis, 2020 ). Based on the discussion in the theoretical motivation section, it was implied that exchange rates of several countries appreciated through financial arbitrage opportunities (capital inflows) following an unexpected U.S. monetary loosening during the pre-COVID-19 period, except for certain countries with potential higher financial risk perceptions in 2019.…”

“…Therefore, it is essential to conduct a country-specific investigation of spillovers, as achieved by the current paper. More importantly, as central banks in other countries may react to the U.S. monetary policy, as suggested by several studies (Gray, 2013 ; Obstfeld, 2021 ; Rey, 2015 ; Georgiadis, 2016 ; Chen et al, 2016 ; Albagli et al, 2019 ; Azad & Serletis, 2020 ), it is also important to control for the monetary policy of individual countries while investigating the spillover effects of U.S. monetary policy.…”