Currency Baskets

Specialeforsvar ved Frederik Mathiasen Secher

Titel: Currency Baskets

Abstract: This thesis examines the effects on trade for a country having its currency pegged to a basket of foreign currencies. The effects are quantified through the pricing the cost of insuring trade against exchange rate fluctuations. That is the currency risk exposure is hedged by an option which is priced in Black-Scholes framework. We apply the pegging to a basket under three different criteria: one basket is simply representing the trade composition of the country, one is optimized to obtain the minimum trade volatility and one has weight to minimizing the insurance cost. It is demonstrated that there are considerable trade gains associated with the pegging to these baskets. The empirical investigations cover Denmark and Turkey in detail and 95 developing in a more general perspective. We find that the Danish Kroner should remain fixed to the euro, Turkey could achieve large improvements by pegging to either of the three baskets as well as there are huge potential trade gains for the developing countries

Vejleder: Rolf Poulsen
Censor:  Cathrine Jacobsen, ATP