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 which is dependent upon the exchange rate regime. By using the many EMS realignments, we are also able to quantify the "peso problem". Robert P. Flood Andrew K. Rose NBER and CEPR, NBER and Research Department, IMF Haas School of Business 700 19 St., NW University of California Washington, DC 20431 Berkeley, CA 94720-1900 Tel: (202) 623-7667 Tel: (510) 642-6609 Fax: (202) 623-6339 Fax: (510) 642-4700 E-mail: [email protected] E-mail: [email protected]