A Study of Volatility in Cryptocurrency and Forex Markets

Project Overview

Volatility in financial markets has an important impact on the economy, policy and investor decisions, and the importance of money markets cannot be ignored. The cryptocurrency market may have an impact on the fiat currency market, and the complexities and possible factors involved have not been fully studied. This project explores the correlation between the cryptocurrency market and the forex market through data analysis and model forecasting to provide stakeholders with valuable decision-making information.

Research Questions

  1. What are the characteristics of the cryptocurrency market volatility?

  2. What are the characteristics of forex market volatility?

  3. Is there a significant correlation between the volatility of the cryptocurrency market and the forex market?

  4. Do different fiat currencies behave differently in their correlations with the cryptocurrency market?

  5. Can the model predict the future volatility of a particular currency?

Potential Audience

  • Economic policymakers

  • Economic and financial regulators

  • Researchers and practitioners in the fields of data science and financial markets

  • Financial investment institutions and individual investors

  • General public interested in data-driven financial market analysis

Literature Review: The Impact of Cryptocurrency Market Volatility on Forex Markets

Cryptocurrencies are becoming increasingly significant in global financial markets, and their volatility may have implications for more traditional assets such as the foreign exchange market. This review will summarize three relevant studies that explore the link between cryptocurrency markets and the foreign exchange market, as well as the limitations of such studies.

  • Market Linkages and Volatility Spillovers: In their 2022 study, Ahmed, Giray, and Marco employed the Diebold-Yilmaz model to examine the phenomenon of volatility spillovers between cryptocurrencies and traditional financial markets. The findings indicate that cryptocurrency markets, particularly Bitcoin, have begun to exert an influence on traditional assets such as the S&P 500 and the foreign exchange market. In particular, during the recent financial crisis, Bitcoin demonstrated heightened volatility, which subsequently affected these markets.

  • Information Flow Between Cryptocurrencies and Financial Assets: In a recent study, Assaf et al. (2023) examined the information flows between cryptocurrencies and other financial assets during COVID-19. The study revealed that cryptocurrencies exhibited heightened correlations with conventional markets, including the VIX and gold. This indicates that information flows between these markets were reinforced during the period, and there is an increasing interconnectivity between cryptocurrencies and traditional financial assets.

  • Cryptocurrencies and Modern Financial Systems: Rejeb et al. (2021) examined the role of cryptocurrencies in modern finance, exploring the opportunities and challenges associated with this emerging financial phenomenon. The authors highlighted that blockchain technology serves as the foundation for the majority of cryptocurrencies, and that the peer-to-peer transaction model represents a significant disruption to traditional financial practices. Furthermore, cryptocurrencies can be exploited for illicit purposes, and significant regulatory hurdles must be overcome. Therefore, the long-term impact of cryptocurrencies on global financial markets remains uncertain due to the presence of regulatory and technological challenges.

This literature review examines the interconnections between cryptocurrencies and conventional financial markets, elucidating the increasing impact of cryptocurrencies on the foreign exchange market. These findings may prove useful in informing future research on the relationship between cryptocurrency volatility and FX market dynamics.

References

  • Assaf, A., Mokni, K., & Youssef, M. (2023). COVID-19 and information flow between cryptocurrencies, and conventional financial assets. The Quarterly Review of Economics and Finance, 89, 73-81.

  • Elsayed, A. H., Gozgor, G., & Lau, C. K. M. (2022). Causality and dynamic spillovers among cryptocurrencies and currency markets. International Journal of Finance & Economics, 27(2), 2026-2040.

  • Rejeb, A., Rejeb, K., & Keogh, J. G. (2021). Cryptocurrencies in modern finance: a literature review. Etikonomi, 20(1), 93-118.