This paper examines how demand for government bonds jointly affects bond yields and exchange rates. Exploiting government bond auctions from advanced economies to isolate demand shocks, I identify two channels: the risk premium channel, which reduces both bond and currency risk premiums, and the convenience yield channel, which increases the value of domestic safe assets. While both channels suppress yields, they have opposing effects on exchange rates. A preferred-habitat model featuring pref- erence for liquidity demonstrates these mechanisms. The model predicts that higher auction demand lowers yields and strengthens the domestic currency by raising convenience yields. Empirical results validate these predictions. The standard positive yield-exchange rate relation, primarily driven by the risk premium channel, dampens during auctions as bond yields increasingly reflect convenience yields. These findings highlight the pivotal role of liquidity preferences in the joint dynamics of government bonds and exchange rates.

We quantify how demand shocks propagate across exchange rates in an interconnected FX market. Using 11 years of daily customer-bank FX flows and exchange-rate returns across 17 currencies, we show that cross-currency propagation can be decomposed into factor-level repricing and currencies' exposures to common risks. To make this decomposition empirically tractable, we identify three traded risk factors that account for 90% of the non-diversifiable risk banks bear when absorbing customer demand imbalances and that plausibly exhibit no cross-factor price effects. We estimate each factor's price sensitivity using sovereign bond auction announcements as instruments for non-informational shocks to factor demand and find that the FX market is highly elastic. Mapping factor-level price sensitivities back to currencies, we find that a $1 billion demand shock to one currency moves other exchange rates by up to 9 basis points. Propagation is strongest among currencies with same-signed factor exposures and weaker when exposures offset. Consistent with the model-implied propagation patterns, out-of-sample FX interventions show that shocks originating in one currency transmit broadly across FX markets through shared risk exposures.

We show that outstanding volumes in FX swaps serve as a good indicator for the hedging activity associated with portfolio positions of advanced economy bond investors. As such, FX swaps serve as a key barometer of risk-taking and global financial conditions. We develop a simple portfolio choice model for international bond investors and use it to estimate the relationship between global FX hedging activity, relative investment opportunities (captured by the yield curve slopes in respective economies), and the hedging costs associated with underlying investments. We find that higher FX hedging activity is closely associated with US portfolio debt inflows and outflows, indicating that FX hedging plays a crucial role in facilitating cross-border bond investments. This connection between FX hedging motives, portfolio bond flows, and the yield curve highlights a mechanism of international financial spillovers—not only from the US but also from advanced economies with significant accumulated wealth flowing into the US.