Studies On Foreign Exchange Intervention

The strict definition of foreign exchange intervention is that the central bank poses its influence on domestic currency to reach the expected goal by means of trading currencies. Exchange intervention is not a newly invented instrument to manipulate the exchange rate, because it has been an important approach to balance the gold prices in a majority of the countries dating back to the time of Bretton Woods system. As a significant foreign exchange policy instrument, foreign exchange intervention is in the focus for the policy makers. Meanwhile, researchers provide sufficient references for the policy through a large number of theoretical and empirical researches.The dissertation studies the foreign exchange intervention in terms of evolution, theory and empiricism. The whole thesis has seven chapters.The first chapter is the brief introduction of the dissertation. To begin with, it states the background of doing researches in the foreign exchange intervention, together with its theoretical and practical meaning. Then, the first chapter defines and formulates the relevant conceptions mentioned in this essay. Furthermore, it briefly presents the methodology, the structure and its originality.Chapter two and three demonstrate the foreign exchange intervention in dollars as well as other currencies. In order to maintain Par Value of Gold, the Bretton Woods System witnessed the crisis of dollars and the foreign exchange intervention time after time and finally it collapsed. From then on, the Washington and the theoretical sector raise doubts about the foreign exchange intervention and regard it as an extravagant measure without effect, which directly resulted that President Reagan implemented laissez-faire policy in his first tour of duty. The Plaza Accord is a benchmark, which symbolizes that the foreign exchange intervention becomes the major foreign exchange policy instrument for the developed countries (frequently used intervention) meanwhile the intervention allies formed by G-3 has been in good shape. This measure has been consistently implemented in several decades. At present, foreign exchange intervention acts as not only effective strategy dealing with crisis, but also as a regular approach to manage domestic currency. This essay analyses the reasons why some countries failed to intervene the exchange during the crisis and what lessons we can draw from. Chapter Four summarizes the theories about the foreign exchange intervention, which is demonstrated in three aspects, flux model, asset market model and its signal model. The Theory of Purchasing Power Parity, as the foundation of exchange evaluation for all countries in the world, is the guidance for the policy with regard to exchange management and intervention. Mundell-Flemming Model analyses the mechanism of exchange intervention in terms of an open economy. Asset market model is an important instrument to evaluate the effectiveness of the intervention. Signal model analyses the asymmetry between the central bank and other market participants. Central bank takes advantage of this principle to change investors' expectations by exchange intervention, so that it can pose its effect on the exchange rate.Chapter five and six are empirical researches which evaluate the effectiveness of the foreign exchange intervention after examination about the effects of the foreign exchange interventions through portfolio balance channel and signal channel. First, curve regression analysis demonstrates the assumption of imperfect substitutability between domestic and foreign assets. Then, co-integration analysis on the portfolio balance channel is conducted. As for the hypothesis of signal channel, co-integration analysis is performed on the "signal" that influences the future policy about the foreign currency. Second, curve regression analysis is accomplished on the foreign exchange intervention, policy variables and exchange rate. Empirical researches concluded that China's foreign exchange intervention through portfolio balance channel is effective, but empirical researches can't support the effectiveness of signal channel on the exchange intervention.Chapter seven analyzes the evolution, instruments and mechanism of central bank's foreign exchange intervention and also its problems. Accompanying with the conclusion of the empirical researches, some approaches and alternatives have been put forward.Chapter Eight will comb the ideas of whole thesis and give a brief summary about the major arguments. Afterwards, it will probe into the insufficient aspects in the research and initiate direction for further researches in the future.