UC Santa Cruz

In the first chapter, I apply a new microeconometric technique, the Synthetic Control method, to construct a counterfactual JPY-USD exchange rate in the absence of large scale intervention by the Japanese monetary authority from the start of 2003 to March 2004, and evaluate the effect of foreign exchange intervention on JPY-USD exchange rate as average treatment effects. I provide empirical evidence suggesting that Japanese intervention may have forced the JPY to depreciate during the first phase of the period, but the effects are likely to have been very small. On the other hand, the final phase of the large-scale JPY-selling intervention from the late 2003 to the first quarter of 2004 had no effect or opposite effects on the JPY.

In the second chapter, I deal with the return-chasing and risk-diversification motives as determinants of cross border asset holdings, and estimate a financial gravity equation to explain US investors' behavior during the periods including the recent financial crisis. A simple pooled OLS regression presents a correlation puzzle. Once the riskiness of foreign asset holdings and the US business cycle are controlled for in the fixed effect model, the correlation puzzle disappears on average for the foreign bond holdings by the US residents. On the other hand, the data support the return chasing motive only for their foreign equity holdings.

In the third chapter, I investigate the currency diversification of international reserves by monetary authorities. Apart from the mean-variance approach, monetary authorities are likely to pay attention to the impact of the currency diversification on the anticipated liquidation of the outputs and reserves during the sudden stop crises, as well as the expected higher returns of alternative reserve currencies. A model simulation indicates that industrial countries have little incentive to diversify their reserve currency composition since their anticipated liquidation costs under the sudden stop crisis are large. On the other hand, developing countries anticipate the higher excess returns of alternative reserve currencies, and have stronger incentives for the currency diversification. Indeed, my empirical results confirm this implication.