World currency exchange rate cross-correlations

TL;DR

This paper analyzes the cross-correlations of daily foreign exchange rate changes among 60 currencies from 1998 to 2005, revealing a dominant eigenvalue influenced by the choice of base currency, especially highlighting the USD's role.

Contribution

It introduces a formal method to measure the relative significance of currencies based on correlation matrix eigenvalues, considering different base currencies over time.

Findings

The correlation matrix is dominated by one large eigenvalue.

The magnitude of this eigenvalue varies with the choice of base currency.

Using more significant currencies as reference reduces the eigenvalue, indicating increased heterogeneity.

Abstract

World currency network constitutes one of the most complex structures that is associated with the contemporary civilization. On a way towards quantifying its characteristics we study the cross correlations in changes of the daily foreign exchange rates within the basket of 60 currencies in the period December 1998 -- May 2005. Such a dynamics turns out to predominantly involve one outstanding eigenvalue of the correlation matrix. The magnitude of this eigenvalue depends however crucially on which currency is used as a base currency for the remaining ones. Most prominent it looks from the perspective of a peripheral currency. This largest eigenvalue is seen to systematically decrease and thus the structure of correlations becomes more heterogeneous, when more significant currencies are used as reference. An extreme case in this later respect is the USD in the period considered. Besides providing further insight into subtle nature of complexity, these observations point to a formal procedure that in general can be used for practical purposes of measuring the relative currencies significance on various time horizons.