Linear and Nonlinear Exchange Rate Exposure and the Price of Exchange Rate Risk
Linear and Nonlinear Exchange Rate Exposure
By Richard Priestley and Bernt Arne Ødegaard, Norwegian School of Management
This paper presents a new methodological approach to examine exchange rate exposure which takes account of the role of
the market portfolio and macroeconomic variables in exposure regressions, exchange rate regimes based on periods of
depreciation and appreciation, and nonlinear exposure. Within each regime we show that the stock market's own exposure
to exchange rates should be taken into account before considering industry exposure. In addition, we adjust the
exchange rate and the stock market for common economy-wide factors that are unrelated to exchange rates. Within this
framework we show that exposure to bilateral exchange rates is statistically and economically important and that
industries with extensive international trade are more often exposed than industries with low levels of international
trade. The signs of exposure coefficients in each regime are consistent with the extent to which an industry exports.
We also show that nonlinear exposure is often statistically and economically significant. Interestingly, there is
little evidence that industries are exposed to a currency basket.
Journal of International Money and Finance. 26 (2007) 1016-1037
A preprint version of the paper is downloadable as a pdf (Adobe acrobat) file.
The final version is available from the JIMF homepage at