Liquidity in the global currency market☆

https://doi.org/10.1016/j.jfineco.2022.09.004Get rights and content
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Abstract

We study the liquidity of the global currency market by analyzing the price impact of trading volume. We analyze a decade of CLS intraday data representative of global foreign exchange (FX) trading by developing a refinement of the popular Amihud (2002) illiquidity measure that we call realized Amihud, which is the ratio between realized volatility and trading volume. Inversely related to market depth, price impact increases with transaction costs, money market stress, uncertainty, and risk aversion. Furthermore, we analyze whether and how liquidity begets price efficiency by looking at violations of the “triangular” no-arbitrage condition. We find that dollar-based currencies offer a lower trading impact supporting price efficiency.

Keywords

Currency market
Foreign exchange
Global liquidity
Price impact
Arbitrage

JEL classification

C15
F31
G12
G15

Cited by (0)

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Nikolai Roussanov was the editor for this article. We thank him very much along with an anonymous referee for their valuable comments. We are also grateful to Tim Bollerslev, Nicola Borri, Massimiliano Caporin, Federico Carlini, Filippo Cavaleri, Alain Chaboud, Nina Karnaukh, Peteris Kloks, Edouard Mattille, Lukas Menkhoff, Federico Nucera, Paolo Pasquariello, Mark Podolskij, Roberto Renó, Fabricius Somogyi, and Vladyslav Sushko for their relevant remarks about our work. We also thank the participants at the 2020 American Finance Association meetings, the 7th Workshop on Financial Determinants of FX Rates at the Norges Bank, the 2018 SoFiE conference, the 2018 DEDA conference, the 2019 Stern Microstructure Meeting, and at seminars at City Hong Kong University, KHAS, LUISS, Aarhus University, and the University of the Balearic Islands for useful comments. Angelo Ranaldo acknowledges financial support from the Swiss National Science Foundation (SNSF grant 182303). An earlier version of this paper circulated under the title “Trading Volume, Illiquidity and Commonalities in FX Markets.”

© 2022 The Author(s). Published by Elsevier B.V.