Measuring Liquidity Commonality of Currencies in the Emerging Markets

ABSTRACT

This paper examines the dynamics of liquidity commonality of currencies in the emerging markets, a research area that has been subject to little academic investigation. We separately examine how liquidity commonality of currencies in the emerging markets and the advanced markets vary between January 2006 and June 2018 using daily data. We find high commonality for both during the global financial crisis in 2007–2009 and the sharp shrinks in foreign exchange trading from 2013 to 2014. In contrast, the European sovereign debt crisis and Quantitative Easing spillovers show time-varying impact on commonality of currencies in the emerging markets. Our results provide important information on liquidity risk management for investors, especially so for active market traders who frequently rebalance portfolios and benefit from diversification in the emerging financial markets.

KEYWORDS:

• Liquidity commonality
• emerging market
• foreign exchange

JEL CLASSIFICATION:

• F31
• G15
• G18

Acknowledgments

The authors gratefully acknowledge the comments received from the 2018 IEF Conference on Financial and Economic Development in China. All errors remain ours.

Notes

1. Strauss, Delphine. 2014. “Forex trading shrinks sharply in dismal end to 2013”. FT.com. Accessed August 2, 2018. https://www.ft.com/content/f20f4284-77a3-11e3-afc5-00144feabdc0.

2. https://www.managementstudyguide.com/impact-of-quantitative-easing-tapering-on-various-stakeholders.htm.

3. Appelbaum, Binyamin (29 October 2014). “Federal Reserve Caps Its Bond Purchases; Focus Turns to Interest Rates”. The New York Times.