Dislocations In The Won-Dollar Swap Markets During The Crisis Of 2007-09

Foreign eXchange (FX) derivatives markets in the Korean won are comparatively thin and vulnerable to impaired functioning. During the crisis, Korea faced dislocations in its FX swap and cross-currency swap markets, so severe that Covered Interest Parity (CIP) between the Korean won and the US dollar was seriously violated. Using a variation of the EGARCH model, the authors find that global market uncertainty - as proxied by VIX, the volatility index - was the main factor explaining the movement of deviations from CIP in the three-month FX swap market during the crisis period.