Deviations from Covered Interest Rate Parity

84 Pages Posted: 25 Apr 2016 Last revised: 6 May 2017

See all articles by Wenxin Du

Wenxin Du

University of Chicago Booth School of Business

Alexander Tepper

Federal Reserve Bank of New York

Adrien Verdelhan

National Bureau of Economic Research (NBER); Massachusetts Institute of Technology (MIT) - Sloan School of Management

Multiple version iconThere are 2 versions of this paper

Date Written: January 1, 2016

Abstract

We find that deviations from the covered interest rate parity condition (CIP) imply large, persistent, and systematic arbitrage opportunities in one of the largest asset markets in the world. Contrary to the common view, these deviations for major currencies are not explained away by credit risk or transaction costs. They are particularly strong for forward contracts that appear on the banks' balance sheets at the end of the quarter, pointing to a causal effect of banking regulation on asset prices. The CIP deviations also appear significantly correlated with other fixed-income spreads and with nominal interest rates.

Keywords: exchange rates, currency swaps, dollar funding

JEL Classification: E43, F31, G15

Suggested Citation

Du, Wenxin and Tepper, Alexander and Verdelhan, Adrien and Verdelhan, Adrien, Deviations from Covered Interest Rate Parity (January 1, 2016). Available at SSRN: https://ssrn.com/abstract=2768207 or http://dx.doi.org/10.2139/ssrn.2768207

Wenxin Du

University of Chicago Booth School of Business ( email )

5807 South Woodlawn Avenue
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United States

HOME PAGE: http://https://sites.google.com/site/wenxindu/

Alexander Tepper

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
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Adrien Verdelhan (Contact Author)

National Bureau of Economic Research (NBER) ( email )

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Cambridge, MA 02138
United States

Massachusetts Institute of Technology (MIT) - Sloan School of Management ( email )

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Cambridge, MA 02142
United States

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