A Study on the Transmission of Money Market Tensions in EMEAP Economies During the Credit Crisis of 2007 - 2008

The recent tension in the interbank markets following the global financial crisis has raised concerns about the turbulence in interbank markets. This paper utilises two widely used indicators for measuring interbank stress (the interbank rate less the Overnight Index Swap rate and the interbank rate less the yield of government securities) to examine the transmission of interbank tension from the US dollar to nine interbank markets in the EMEAP economies. Using a vector autoregression model, we show that during the credit crisis of 2007 - 2008, the distress in the US dollar money market had a material impact with durations of seven to 13 days on the interbank markets for the Hong Kong dollar, Japanese yen, Australian dollar and New Zealand dollar. Moreover, based on a bivariate regime switching ARCH model, we also find evidence of volatility co-movement between the interbank stress indicator of the US dollar and that of the Hong Kong dollar, Japanese yen, Australian dollar, New Zealand dollar, Korean won and Singapore dollar during the crisis. The expected duration when two money markets are both in a high-volatility state is estimated to be as long as seven days. The short-lived impact on the EMEAP economies from a shock in the US dollar money market can be attributed to the policy actions taken by central banks and monetary authorities in the region and the coordinated efforts by policy makers worldwide to contain the credit crisis.