DP14437 The Non-U.S. Bank Demand for U.S. Dollar Assets

Author(s): Tobias Adrian, Peichu Xie
Publication Date: February 2020
Date Revised: July 2021
Keyword(s): Exchange Rate Disconnect, intermediary asset pricing, Safe Asset Demand
JEL(s): F3, G1
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=14437

The USD asset share of non-U.S. banks captures the relative demand for USD denominated assets by these investors. An instrumental variable strategy identifies a causal link from the USD asset share to the USD exchange rate. Furthermore, cross-sectional asset pricing tests show that the USD asset share is a highly significant pricing factor for carry trade strategies. The USD asset share also forecasts the movement of foreign currency against U.S. dollar with economically large magnitude, high statistical significance, and large explanatory power, both in sample and out of sample, pointing towards time varying risk premia. It takes 2-5 years for exchange rate risk premia to normalize in response to demand shocks.