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Periodic Sequences Of Arbitrage: A Tale Of Four Currencies

  • Rod Cross
  • Victor Kozyakin
  • Brian O'Callaghan
  • Alexei Pokrovskii
  • Alexey Pokrovskiy

This paper investigates arbitrage chains involving four currencies and four foreign exchange trader-arbitrageurs. In contrast with the three-currency case, we find that arbitrage operations when four currencies are present may appear periodic in nature, and not involve smooth convergence to a "balanced" ensemble of exchange rates in which the law of one price holds. The goal of this article is to understand some interesting features of sequences of arbitrage operations, features which might well be relevant in other contexts in finance and economics.

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File URL: http://hdl.handle.net/10.1111/j.1467-999X.2011.04140.x
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Article provided by Wiley Blackwell in its journal Metroeconomica.

Volume (Year): 63 (2012)
Issue (Month): 2 (05)
Pages: 250-294

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Handle: RePEc:bla:metroe:v:63:y:2012:i:2:p:250-294
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  1. Engel, Charles & West, Kenneth D., 2003. "Exchange rates and fundamentals," Working Paper Series 0248, European Central Bank.
  2. Ross, Stephen A, 1978. "A Simple Approach to the Valuation of Risky Streams," The Journal of Business, University of Chicago Press, vol. 51(3), pages 453-75, July.
  3. Charles Engel, 1995. "Accounting for U.S. Real Exchange Rate Changes," NBER Working Papers 5394, National Bureau of Economic Research, Inc.
  4. Andrei Shleifer & Robert W. Vishny, 1995. "The Limits of Arbitrage," NBER Working Papers 5167, National Bureau of Economic Research, Inc.
  5. Jonathan Haskel & Holger C. Wolf, 2001. "The Law of One Price - A Case Study," CESifo Working Paper Series 428, CESifo Group Munich.
  6. C. L. Osler, 2002. "Stop-loss orders and price cascades in currency markets," Staff Reports 150, Federal Reserve Bank of New York.
  7. Alan M. Taylor, 2002. "A Century Of Purchasing-Power Parity," The Review of Economics and Statistics, MIT Press, vol. 84(1), pages 139-150, February.
  8. Covrig, Vicentiu & Melvin, Michael, 2002. "Asymmetric information and price discovery in the FX market: does Tokyo know more about the yen?," Journal of Empirical Finance, Elsevier, vol. 9(3), pages 271-285, August.
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