FX Interventions in a Small Open Economy: The Case of Domestic Non-Deliverable Forwards
46 Pages Posted: 24 Oct 2024 Last revised: 4 Feb 2025
Date Written: October 18, 2024
Abstract
We study the effects of domestic non-deliverable forwards (DNDF) on the level and volatility of the USD/MXN nominal exchange rate. We focus on the introduction of the DNDF policy by the Bank of Mexico in 2017 and find that the first announcement of the policy was successful in mitigating both depreciation pressure and volatility of the USD/MXN exchange rate. Our estimates show an appreciation of the Mexican Peso by 32.91 cents after the announcement of the policy and a reduction in the option-implied exchange rate volatility of different maturities by 40 cents on average. We rationalize our findings using a model of a small open economy with collateral constraints and show that the DNDF policy can be used to mitigate severity of a self-fulfilling currency crisis, thereby counteracting the downward pressure on the domestic currency.
Keywords: FX intervention, Non-deliverable forwards, Self-fulfilling crisis
JEL Classification: E44, E58, F31, F41, G14, H23
Suggested Citation: Suggested Citation