Search

This thesis is concerned with the implications of the financial liberalisation of the Chinese economy for savings, investment, monetary policy and the exchange rate, in China. In the first part, the financial repression hypothesis is tested on savings and investment, with the result that there is some evidence to support the complementarity between money and physical capital in China since 1987, although this effect is shown to have become weaker over the sample period as liberalisation has taken place. The second issue is to investigate the consequences of interest rate liberalisation in China, using a dynamic stochastic general equilibrium (DSGE) model. There are two main findings. First, raising deposit rates serves to alter the division of production between consumption and investment and to improve the efficiency of the monetary policy transmission mechanism through interest rates. Second, the deregulation of deposit and loan rates leads to less volatility in inflation as interest rates are allowed to partly absorb shocks to the economy. Other monetary policies under financial repression in China are examined as well. The results based on the DSGE model suggest that the interest rate rule is more effective and powerful than the conventional money growth rule and the adjustment of the required reserve ratio helps little to contain inflation. In addition, the administrative window guidance on bank loans contributes to less volatility of inflation and stabilises the deregulation process of deposit and loan rates. The final part of the thesis examines the sources of the volatility in real exchange rate, which are shown to stem essentially from demand shocks, although up to a quarter of the volatility comes from relative supply disturbances, perhaps reflecting the importance of supply-side reform in China since the early 1990s.

This dissertation is composed of three empirical studies. The first study examines the long-run relationship between the real world price of maize, soybeans and sugar with the real world price of crude oil and a series of macroeconomic variables using a cointegration analysis from January 1982 until December 2012. The main empirical results support a strong causal relationship between maize and soybeans with crude oil, the real interest rate and the real U.S. exchange rate. It is shown that real world crude oil prices are cointegrated with real world prices of maize and soybeans for the entire sample period and that real oil prices have a one-to-one relationship with these commodities. In other words, a one-percent increase in the price of real crude oil is associated with a one-percent increase in the price of maize and soybeans. Moreover, we find that permanent shocks to crude oil prices are transmitted to both maize and soybeans by a factor of 0.67 in both cases. In addition, our results show that despite the instability associated with the period between 2007-2008, the cointegrating relationship between crude oil and these agricultural commodities has remained stable during the entire sample period. Finally, our results also suggest that although the real interest rate and the U.S. exchange rate are cointegrated with these commodities, it is only permanent shocks to real crude oil prices that have a permanent effect on the commodities price behavior. In the second study I examine the degree of interdependence between three agricultural commodity prices, crude oil price returns, macroeconomic variables and the S&P GSCI commodity returns index. I apply Aielli [2013] cDCC model using monthly data from 1982 to 2012 to estimate the dynamic correlations of the returns series and endogenously detect any structural instability of the dynamic correlations. The results indicate that crude oil price returns present statistically significant dynamic correlations with all the macroeconomic variables in addition to the GSCI index. Additionally, we detect structural changes in these dynamic correlations mainly associated with the financial crisis of 2008. On the other hand, our results show that there exists no degree of interdependence between maize, soybeans and sugar with crude oil price returns and most of the macroeconomic variables. The exceptions are between soybeans with the U.S. exchange rate and sugar with global economic activity. Nevertheless, only the GSCI index presents significant dynamic correlations with these commodity price returns. In the third study I apply an asset pricing theory model in order to evaluate the extent to which investment in futures commodity price indexes influence spot price return in a portfolio of commodity and energy prices. Particularly, we are interested in measuring the common risk factors of six agricultural commodities (e.g. maize, soybean, sugar, wheat, barley and sorghum) and global crude oil. Here, I aim to estimate their relationship with equities, the U.S. dollar, interest rates, a series of variables measuring the global macroeconomic performance and commodity futures price indexes. In contrast to the literature, instead of using a principal components analysis (PCA), which is concerned with explaining the return variances of a portfolio, I use a reduced rank approach in order to capture the canonical correlations in an effort to measure those factors which explain the risk to the commodity portfolio. This approach help us to understand the cross-section dependency of commodity markets with the global macroeconomic cycles as well as to capture the extent to which increasing portfolio investment by institutional investors, which has given rise to the so called “financialization of commodities”, are motivated by diversification strategies or by speculative behavior in these markets. Our findings, indicate that even though macroeconomic factors, market specific and commodity futures indexes are captured among the risk factors in this commodity portfolio. Nevertheless, the factors associated with the market specific and the commodity futures indexes offer a hedge for the risks provided by the common macroeconomic factor. Therefore, using this approach, I conclude that commodity futures index investment appears to offer the diversification effect which has been the main driver of the so called commodity financialization within the past fifteen years.

Exchange rate risk, interest rate risk and oil price fluctuations are the most demonstrated risks in the GCC (Gulf Cooperation Council) countries (Arouri and Nguyen, 2010). Research, however, in this area is still underdeveloped. The importance of this study is to contribute to this research gap. This research aims to show how these three risks affect firms' market values by examining 473 listed firms in Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and United Arab Emirates for the period January 2007 to June 2012. The research further examines the determinants of these risks. The study uses the AR (1) EGARCH-M model. The results indicate that stock returns in GCC countries are influenced by the exchange rate risk, interest rate risk and oil price risk. However, the exposure was highest for exchange rate risk and lowest for interest rate risk. While the effects of these risks were mixed, overall, exchange rate risk and oil price risk showed more positive significance as compared to the interest rate risk that showed more negatively significant effect on firm values. The level of the effect of these risk also differed from country to country. However, firms in United Arab Emirates revealed the highest exposure to all the three risks while those in Saudi Arabia showed the least exposed to the three risks. Oman firms also showed high exposure to exchange rate and interest rate risks. The segregated results overall showed lower exposure of financial firms as compared to non-financial firms. However, the non-financial firms in Bahrain were more exposed to the risks than the financial firms. In Saudi Arabia, the financial firms revealed the least exposure to the risk suggesting effective risk management practices. In addition, foreign operations and firm size had a significant influence on the extent of the firms’ exposure to all the three risks. Leverage also influenced the level of exposure to interest rate risk. Profitability, growth and liquidity did not reveal a significant influence on the level of exposure. Further, increasing the risk does not lead to increased returns in most of the GCC countries. The risk-return parameters were largely negative. However, positive news increases return volatility more than negative news in most countries. Also, the current volatility of most GCC firms’ returns are time varying, are a function or past innovation and past volatility. The volatility of stock returns, which is affected by changes in the risk factors, could demonstrate the non-prioritisation of risk management by firms.

This thesis analyses the relationship between the increasingly important sovereign CDS spreads and exchange rates, from a macroeconomic perspective. It attempts to address an existing gap in the empirical literature, which to date has paid limited attention to the role of exchange rates in influencing sovereign CDS spreads, and vice versa. In exploring the relationship between sovereign CDS markets and foreign exchange markets, I find relatively strong evidence of a causal relationship between these two variables. In a longer-term cointegrating relationship, I find that sovereign CDS spreads have different impacts (positive or negative) on exchange rates depending on the structural characteristics of the domestic export sectors of the countries studied. Turning to the second moment of exchange rates and sovereign CDS spreads, I examine the relationship between the volatility of sovereign CDS spreads and the volatility of exchange rates for developed economies (proxied by an index containing 10 Eurozone countries) and emerging economies (proxied by Brazil and Russia). My findings point to different mechanisms of transmission between sovereign CDS markets and foreign exchange markets with regard to developed and emerging economies: for developed economies, exchange rates affect sovereign CDS spreads through the volatility, whilst in emerging economies the exchange rates affect sovereign CDS spreads at the price level. To further analyse the determinants of sovereign CDS spreads, I incorporate additional macroeconomic fundamentals in addition to exchange rates into a model to explain sovereign CDS spreads. The results show that sovereign CDS spreads are indeed driven by most macroeconomic fundamentals. However, these results do not hold during periods of economic turmoil, in which the rising risk aversion of investors becomes a principal influence behind the sovereign CDS spreads. As changes in exchange rates are able to capture changes to risk aversion through trading in foreign exchange markets, the exchange rate retains its explanatory power to sovereign CDS spreads in ‘normal’ as well as ‘crisis’ conditions. Overall, the study provides strong support for the claim that exchange rates are an important determinant of sovereign CDS spreads, in addition to the interest rate which is highlighted in the literature review. The exchange rate – as an important fundamental indicator – can reflect the general domestic economic status, the relative international competitiveness of countries, as well as capture changes in risk aversion among investors. Therefore, using exchange rates to explain sovereign CDS spreads can help to account for both domestic and international dimensions of the ‘health’ of an economy as well as changes in investors’ attitudes.