understandinginvestorbehaviorduringaperiodofinstitu.docVIP

Understanding Investor Behavior During a Period of Institutional Change: An Episode of Early Years of a Newly Independent Central Bank by Janusz Brzeszczynski and Ali M. Kutan Brzeszczynski – Heriot-Watt University, Edinburgh, United Kingdom Kutan – Southern Illinois University Edwardsville; The Center for European Integration Studies (ZEI), Bonn; The Emerging Markets Group (EMG), London; and The William Davidson Institute (WDI), Michigan This version: June 27, 2010 ABSTRACT Employing unique data derived directly from Reuters electronic brokerage platform for currency trading, this paper investigates the reaction of investors to central bank announcements on foreign exchange market in Poland. Our sample period is also unique as it captures a time during which the National Bank of Poland (NBP) was transforming institutionally and switching to a new monetary policy regime, namely, inflation targeting. Evidence indicates that central bank communication reduces the market uncertainty, measured here by the conditional variance of foreign exchange returns, and increases trading volume, suggesting that (i) the NBP pursued a credible monetary policy, and (ii) there was an increase in investor confidence. The findings suggest that investors react significantly to central bank communication in newly emerging economies with major institutional changes. The findings have further broader implications for the applicability of micro-structure models and the role played by exchange rates in the monetary transmission mechanism during early years of an independent central bank in emerging economies. Acknowledgements: We would like to thank Dobromil Serwa from National Bank of Poland (NBP) for very helpful discussion and comments on this paper. The help of officials at the NBP for providing information to us about the nature of the announcements is greatly acknowledged. We are also grateful to Pawe? Józefowicz, Piotr Odrzywo?ek and Avinash Sharma at Reuters in W