Intervention Strategies and Exchange Rate Volatility: A Noise Trading Perspective

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Research Papers

Intervention Strategies and Exchange Rate Volatility: A Noise Trading Perspective

June 1995 Number 9515

Author: Juann H. Hung

This paper estimates and explains the impact of U.S. sterilized intervention on exchange rate volatility. We find that U.S. intervention reduced both yen/dollar and DM/dollar exchange rate volatilities during 1985-86, but increased them during 1987-89. These results make sense in a noise trading framework where the effectiveness of sterilized intervention may depend critically on the shrewdness of intervention strategies. Depending on circumstances, central banks may use noise trading channels through covert intervention, or activate signaling channels through overt intervention. The intervention exchange rate volatility relationship may change as intervention strategies adjust to differing circumstances.

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