Abstract

This study examines the impact of recent geopolitical conflicts on exchange rate dynamics and financial market volatility in Eastern Europe and the Middle East, focusing on the Russia–Ukraine war and the Israel–Gaza escalation. By applying advanced time-series econometric models—namely GARCH(1,1), Markov Switching GARCH (MS-GARCH), and Vector Autoregression (VAR)—the research captures both volatility persistence and regime shifts while uncovering the dynamic interdependencies between exchange rates and stock indices across affected regions. The analysis covers two regional groups: Ukraine, Russia, Romania, and Hungary (Group 1); and Israel, Egypt, and Türkiye (Group 2), using daily financial data spanning from 2018 to 2025. The findings reveal that geopolitical conflicts induce immediate and persistent volatility spikes in both currency and equity markets, with marked shifts between low- and high-volatility regimes identified through MS-GARCH models. Evidence from VAR-based Granger causality tests and impulse response functions confirms significant contagion effects, where shocks originating in conflict countries transmit volatility to neighbouring markets. Specifically, Ukraine’s financial shocks are found to Granger-cause volatility in Russia, Romania, and Hungary, while Israel’s market disruptions similarly affect Egypt and Türkiye. These results affirm the co-volatility hypothesis, highlighting synchronized volatility patterns between exchange rates and stock markets during periods of geopolitical stress. The study advances existing literature by integrating volatility and causality modelling within a comparative, cross-regional framework, addressing key gaps in prior research that often isolates exchange rates or overlooks regional spillover effects. The empirical evidence underscores the limitations of traditional exchange rate theories, such as Purchasing Power Parity (PPP) and Interest Rate Parity (IRP), in explaining crisis period volatility driven by geopolitical shocks. The findings offer practical implications for policymakers, central banks, and institutional investors, emphasizing the need for real-time monitoring tools and coordinated interventions to mitigate financial instability during conflicts.