Currency Bubbles Which Affect Fundamentals: A Qualitative Treatment
Marcus Miller () and
Economic Journal, 1990, vol. 100, issue 400, 170-79
The authors analyze the effect of rational bubbles in the foreign exchange market, taking account of the interdependence between bubble paths and economic fundamentals. The risk of the bubble ending, modeled as a Poisson process, adds an insurance premium to the interest differential governing currency arbitrage. Qualitative solutions are obtained for the exchange rate when fundamentals evolve deterministically and also when "white noise" errors are introduced. Copyright 1990 by Royal Economic Society.
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