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Arbitrage in the foreign exchange market: Turning on the microscope

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  • Akram, Q. Farooq
  • Rime, Dagfinn
  • Sarno, Lucio

Abstract

This paper provides real-time evidence on the frequency, size, duration and economic significance of arbitrage opportunities in the foreign exchange market. We investigate deviations from the covered interest rate parity (CIP) condition using a unique data set for three major capital and foreign exchange markets that covers a period of more than seven months at tick frequency. The analysis unveils that: i) short-lived violations of CIP arise; ii) the size of CIP violations can be economically significant; iii) their duration is, on average, high enough to allow agents to exploit them, but low enough to explain why such opportunities have gone undetected in much previous research using data at lower frequency.

Suggested Citation

  • Akram, Q. Farooq & Rime, Dagfinn & Sarno, Lucio, 2008. "Arbitrage in the foreign exchange market: Turning on the microscope," Journal of International Economics, Elsevier, vol. 76(2), pages 237-253, December.
    • Handle: RePEc:eee:inecon:v:76:y:2008:i:2:p:237-253
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    More about this item

    Keywords

    Exchange rates Arbitrage Covered interest rate parity Foreign exchange microstructure;

    JEL classification:

    • F31 - International Economics - - International Finance - - - Foreign Exchange
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G15 - Financial Economics - - General Financial Markets - - - International Financial Markets

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