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Craig Burnside, Martin S. Eichenbaum, Sergio Rebelo
NBER Working Paper No. 13278
Issued in July 2007
NBER Program(s): EFG
IFM
ME
---- Abstract -----
High-interest-rate currencies tend to appreciate relative to low-interest-rate currencies. We argue that adverse-selection problems between participants in foreign exchange markets can account for this 'forward premium puzzle.' The key feature of our model is that the adverse selection problem facing market makers is worse when, based on public information, a currency is expected to appreciate.
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