## Dominant Currency Pricing and Currency Risk Premia

_IMF Working Papers, July 31, 2026_

## Source details

**Canonical URL:** [Dominant Currency Pricing and Currency Risk Premia](https://www.imf.org/en/publications/wp/issues/2026/07/31/dominant-currency-pricing-and-currency-risk-premia-578314)

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## Bibliographic details
- Authors: Husnu C. Dalgic, Galip Kemal Ozhan
- Published: July 31, 2026
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9798229056861.001

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### Summary
- This paper studies how dominant-currency pricing affects currency risk premia.
- Empirically, common risk factors are extracted from excess currency returns using principal components.
- Countries’ factor exposures are related to observable macroeconomic characteristics, with export dollar invoicing emerging as a predictor of carry trade exposure.
- A small open-economy model with dominant-currency pricing and dollar-denominated liabilities is used to explain the empirical results.
- Key mechanism: dollar export invoicing weakens the exchange rate's stabilizing effect on external demand; dollar debt makes depreciation costly for leveraged intermediaries. When both frictions interact:
  - Depreciations occur in bad states.
  - Local-currency assets become risky.
  - The currency premium rises.
  - The risk-adjusted neutral rate increases.
  - Under a standard Taylor rule, this mechanism generates persistently higher inflation.

### Empirical findings
- Method: Principal components extraction of common risk factors from excess currency returns.
- Main empirical predictor identified: export dollar invoicing predicts carry trade exposure.
- Relationship established between countries’ factor exposures and observable macroeconomic characteristics (export dollar invoicing highlighted).

### Model and mechanisms
- Model features: small open-economy with dominant-currency pricing and dollar-denominated liabilities.
- Mechanisms described:
  - Dollar export invoicing reduces the exchange rate’s effectiveness in stabilizing external demand.
  - Dollar-denominated liabilities (dollar debt) make depreciation costly for leveraged financial intermediaries.
  - Interaction of these frictions causes depreciations to coincide with bad states, elevating risk in local-currency assets and increasing currency premia and the risk-adjusted neutral rate.
  - Under a standard Taylor rule, these dynamics lead to persistently higher inflation.

### Policy implications and relevance
- Sources of elevated currency risk premia include export dollar invoicing and dollar-denominated liabilities.
- Interactions between pricing currency and liability currency can amplify macroeconomic volatility and inflation persistence via higher currency premia and a higher risk-adjusted neutral rate.
- Insights relevant for policymakers concerned with exchange-rate exposure, debt currency composition, and inflation dynamics under standard monetary policy rules.

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_Source: https://www.imf.org/en/publications/wp/issues/2026/07/31/dominant-currency-pricing-and-currency-risk-premia-578314_