Just another day in the inter-bank foreign exchange market

Authored by R Chakrabarti

Date Published: 2000-04

DOI: 10.1016/s0304-405x(99)00058-6

Sponsors: No sponsors listed

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Model Documentation: Other Narrative Mathematical description

Model Code URLs: Model code not found

Abstract

In this paper, I develop a theory of bid-ask quotes provided by foreign exchange dealers in the inter-bank market based on their beliefs and their inventory positions. I then build an agent-based model of the inter-dealer market where dealers learn in a Bayesian manner from quotes from other dealers. Using simulations, I find that the resulting intra-day spreads and between-quote returns largely conform to the empirically observed intra-day U-shaped pattern - a feature that has not been satisfactorily explained in the literature. I also study the factors that determine this U-shape. (C) 2000 Elsevier Science S.A. All rights reserved. JEL classification: D83; F31.

Tags

Agent based model foreign exchange microstructure