Discussion paper

DP1090 Fixes: Of the Forward Discount Puzzle

Regressions of ex-post changes in floating exchange rates on appropriate interest differentials typically imply that the high interest rate currency tends to appreciate - the `forward discount puzzle'. Using data from the European Monetary System we find that a large part of the forward discount puzzle vanishes for regimes of fixed exchange rates. That is, deviations from uncovered interest parity appear to vary in a way that is dependent upon the exchange rate regime. By using the many EMS realignments we are also able to quantify the `peso problem'.

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Citation

Flood, R and A Rose (1994), ‘DP1090 Fixes: Of the Forward Discount Puzzle‘, CEPR Discussion Paper No. 1090. CEPR Press, Paris & London. https://cepr.org/publications/dp1090