Discussion Paper Details

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Title: Cables, Sharks and Servers: Technology and the Geography of the Foreign Exchange Market

Author(s): Barry Eichengreen, Romain Lafarguette and Arnaud Mehl

Publication Date: January 2016

Keyword(s): exogeneity, foreign exchange market, geography, submarine fiber-optic cables and technology

Programme Area(s): International Macroeconomics and Finance

Abstract: We analyze the impact of technology on production and trade in services, focusing on the foreign exchange market. We identify exogenous technological changes by the connection of countries to submarine fiber-optic cables used for electronic trading, but which were not laid for purposes related to the foreign exchange market. We estimate the impact of cable connections on the share of offshore foreign exchange transactions. Cable connections between local markets and matching servers in the major financial centers lower the fixed costs of trading currencies and increase the share of currency trades occurring onshore. At the same time, however, they attenuate the effect of standard spatial frictions such as distance, local market liquidity, and restrictive regulations that otherwise prevent transactions from moving to the major financial centers. Our estimates suggest that the second effect dominates. Technology dampens the impact of spatial frictions by up to 80 percent and increases, in net terms, the share of offshore trading by 21 percentage points. Technology also has economically important implications for the distribution of foreign exchange transactions across financial centers, boosting the share in global turnover of London, the world?s largest trading venue, by as much as one-third.

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Bibliographic Reference

Eichengreen, B, Lafarguette, R and Mehl, A. 2016. 'Cables, Sharks and Servers: Technology and the Geography of the Foreign Exchange Market'. London, Centre for Economic Policy Research.