Tails of Foreign Exchange-at-Risk (FEaR)
[New Version | Coming Soon] [Cambridge Working Paper #2343 | June 2023]
The U.S. dollar tends to appreciate more against high-yield currencies during periods of global financial stress than it depreciates against low-yield ones. Using a novel quantile-regression setup, I show that while left-tail depreciations of high-yield currencies are predicted to be ten times greater than interest differentials, spikes in Treasury liquidity premia meaningfully appreciate the dollar regardless of the U.S. relative interest rate. I rationalize these results using a model in which speculators unwind carry trades and hedgers fly to relatively liquid U.S. Treasuries during global financial disasters. The dynamics of speculators' and hedgers' currency futures positions around disasters match those of my model, which highlights that hedging agents imbue the U.S. dollar with its unique safe-haven status.
Granular Banking Flows and Exchange-Rate Dynamics
We identify exogenous granular financial shocks in currency markets using data on the external positions of global banks resident in world's largest cross-border banking centre, the UK. Using a granular international banking model to guide our empirics, we show that large banks' idiosyncratic demand-flows disproportionately influence exchange-rate dynamics. Empirically, we find that while the supply of US dollars from banks' counterparties is price-elastic, UK-resident global banks' dollar demand is price-inelastic, due to their more-limited risk-bearing capacities. Overall, banks' inelastic demand implies they price most of the exchange-rate response to capital flows, making them `marginal' investors in currency markets.
Inelastic UK Bank Demand and Elastic ROW `Fund' Supply of USD
U.S. Risk and Treasury Convenience
[New Version | Coming Soon] [NBER Summer Institute Draft | June 2023]
We document that, over the past two decades, investors' assessment of U.S. risk has risen relative to other G.7 economies, driven by expectations of greater permanent risk. We develop a two-country, incomplete markets framework with trade in a rich maturity structure of bonds—which earn convenience yields—alongside equities. Our framework links carry-trade returns, cross-border convenience yields and relative country risk across maturities. Building on this, we construct novel empirical measures of country risk from bond and equity premia that adjust for within-country convenience yields. Our results suggest that the rise of U.S. permanent risk and fall in long-maturity U.S. Treasury convenience yields are two sides of the same coin.
Firm Financial Conditions and the Transmission of Monetary Policy
[Latest Version | December 2023] [Finance and Economics Discussion Series (FEDs) #2023-037 | May 2023] [Cambridge Working Paper #2316 | February 2023]
We study how the transmission of monetary policy to firms' investment and credit spreads depends on their financial conditions, finding a major role for their excess bond premia (EBPs), the component of credit spreads in excess of default risk. While monetary policy easing shocks compress credit spreads more for firms with higher ex-ante EBPs, it is lower-EBP firms that invest more. We rationalize these findings using a model with financial frictions in which lower-EBP firms have flatter marginal product of capital curves. We also show empirically that the cross-sectional distribution of firm EBPs determines the aggregate effectiveness of monetary policy.
The Asymmetric Effects of Quantitative Tightening and Easing on Financial Markets
[Latest Version | October 2023]
(with Simon Lloyd)
We study the asymmetric impact of US quantitative easing (QE) and tightening (QT) on financial markets using high-frequency large-scale asset purchase surprises around FOMC announcements. We document that QT surprises have larger and more persistent effects on US Treasury yields than QE shocks. Using a decomposition of bond yields, we show that this asymmetry arises from the differential effect of QT vs. QE surprises on expectations of future short-term rates (linked to the so-called signalling channel) at shorter maturities, and term premia (portfolio rebalancing channel) at longer maturities.