AN OVER‐THE‐COUNTER APPROACH TO THE FOREX MARKET |
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| Authors: | Athanasios Geromichalos Kuk Mo Jung |
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| Institution: | 1. University of California–Davis, U.S.A.;2. Hanyang University, South KoreaWe are grateful to Jonathan Chiu, Pedro Gomis‐Porqueras, Ricardo Lagos, Guillaume Rocheteau, Katheryn Russ, Ina Simonovska, Alberto Trejos, Cathy Zhang, and Shengxing Zhang for useful comments and suggestions. We would also like to thank participants at the 2014 Chicago Fed workshop on Money, Banking, Payments, and Finance, and at the UC Davis, Korea University Business School, Purdue University, Hanyang University, and Henan University macroeconomics seminars for their feedback. Jung acknowledges that this work was supported by the research fund of Hanyang University (HY‐2017). |
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| Abstract: | The foreign exchange (FOREX) market is an over‐the‐counter market characterized by intermediation and significant bid–ask spreads. However, most of the existing international macroeconomics literature models the FOREX as a standard Walrasian market. This article constructs a dynamic general equilibrium model of intermediation in the FOREX market. We use our framework to compute standard measures of FOREX liquidity, such as bid–ask spreads and trade volume, and study how they are affected by macroeconomic fundamentals and market microstructure. We also study how FOREX market microstructure affects the volume of international trade and, consequently, welfare. Our empirical exercise offers support to the models' main predictions. |
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