The Impact of US Monetary Policy Shocks on the Exchange Rate Risk: Connectedness of Emerging Markets

The US; is one of the leading countries in the world economy. Thanks to its strong economy and reserve currency, it directs the international economy. Due to its important position, the monetary policy decisions of the FED are important for other developing economies, especially small open economies. Until the 2008 Great Recession, the FED used conventional monetary policies, during and after the crisis the FED had to change its policy to unconventional due to the insufficient of conventional policies. These policy changes left a huge impact on developing countries. In particular, the impact on exports and imports has been heavier for countries with significant foreign dependence and a high external debt burden. This is also due to the changes in interest rates caused by the pressure on the exchange rate that the dollar gains value. The study aims to explore the impact of the monetary policy shocks arising as a result of changes in the Fed’s monetary policy on the exchange rate risk and the connectedness in emerging market economies. In the study, Diebold & Yılmaz spillover index was taken based and analysed by using the TVP-VAR method. As monetary policy shocks, we included Federal Funds Rate, Forward Guidance, and Large-Scale Asset Purchases. According to the result of the connectedness analysis, we found a strong connectedness among emerging market economies. Close trade relations or geographical proximity can be the reasons for this connectedness. For the transmission of the exchange rate risk between two countries, Singapore is an important risk transmitter among all countries. In addition to this, the United Arab Emirates and Qatar are in the receiver position of risk. At the end of the study, it is determined that the US monetary policy shocks do not have statistically significant effects on the exchange rate risk connectedness in emerging market economies.