Establishing a Foreign Exchange Futures Market in China

Abstract

IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management. Abstract Although foreign exchange (FX) futures markets have been relatively prevalent in many developed countries and emerging markets, some other countries, including China, have not established such a market partly due to concerns about its ability to amplify the risk of the underlying exchange rate's volatility. This paper analyzes the impact of establishing FX futures markets on the volatility of the underlying spot rate based on data from major developing countries. Our analysis shows that FX futures market is not empirically associated with an increase in FX volatility and in some cases even with a decrease in FX volatility. Compared with the over-the-counter (OTC) market, the FX futures markets can better meet the hedging needs of small and medium-sized enterprises due to their standardized products, greater transparency, and stronger oversight. Going forward, it is in China's interests to accelerate the establishment of an FX futures market and allow for a more market-based approach to ensure the stability and sustainability of such a market. JEL Classification Numbers: F31, G15, G28