Exchange Rates and Monetary Policy Uncertainty
42 Pages Posted: 20 Dec 2015 Last revised: 11 Dec 2016
Date Written: June 20, 2016
We document that a trading strategy that is short the U.S. dollar and long other currencies exhibits significantly larger excess returns on days with scheduled Federal Open Market Committee (FOMC) announcements. We also show that these excess returns (i) are higher for currencies with higher interest rate differentials vis-a-vis the U.S.; (ii) increase with uncertainty about monetary policy; and (iii) intensify when the Federal Reserve adopts a policy of monetary easing. We interpret these excess returns as a compensation for monetary policy uncertainty within a parsimonious model of constrained financiers who intermediate global demand for currencies.
Keywords: Monetary Policy, Foreign Exchange, Uncertainty
JEL Classification: E52, E58, F31
Suggested Citation: Suggested Citation