This paper deals with the effects of transaction costs on the efficacy of covered interest arbitrage during three periods: 1962-67, the tranquil peg; 1968-69, the turbulent peg; and 1973-75, the managed float. Several conclusions emerge: (i) during the managed float transaction costs have risen dramatically, (ii) these costs played a similar role in accounting for deviations from parity during the periods of the tranquil peg and the managed float but not during the turbulent peg. Similar conclusions emerge from a time-series analysis of the various exchange rates with the implication that a classification of periods according to the degree of turbulence is preferred to a classification based on the legal arrangement (e.g., pegged or floating rates), and (iii) covered interest arbitrage does not seem to entail unexploited opportunities for profits.

This paper deals with the effects of transaction costs on the efficacy of covered interest arbitrage during three periods: 1962-67, the tranquil peg; 1968-69, the turbulent peg; and 1973-75, the managed float. Several conclusions emerge: (i) during the managed float transaction costs have risen dramatically, (ii) these costs played a similar role in accounting for deviations from parity during the periods of the tranquil peg and the managed float but not during the turbulent peg. Similar conclusions emerge from a time-series analysis of the various exchange rates with the implication that a classification of periods according to the degree of turbulence is preferred to a classification based on the legal arrangement (e.g., pegged or floating rates), and (iii) covered interest arbitrage does not seem to entail unexploited opportunities for profits.

Empirical studies of covered interest arbitrage suggest that the parity condition is not always satisfied and thus implying unexploited profit opportunities. This paper provides a procedure for estimating transaction costs in the markets for foreign exchange and for securities. Allowance for these costs accounts for most of the apparent profit opportunities. It is shown that in addition to transaction costs, demand and supply elasticities in the various markets and lags in executing arbitrage can account for all of the apparent profit opportunities. It is concluded that empirical data are consistent with the interest parity theory and that covered interest arbitrage does not entail unexploited profit opportunities.

In recent years the world economy has been subject to large and unsyncronized changes in fiscal policies, high and volatile real rates of tnterest, large fluctuations in real exchange rates, and significant variations in private-sector spending. This paper reviews some of the key facts characterizing the effects of fiscal policies during the first half of the 1980s and provides a simple analytical framework suitable for the interpretation of these facts. The analytical framework builds on a two-country model of the world economy which is applied to the analysis of the transmission and effects of various changes in the time profile of taxes and of government spending. Generally, the predictions of the model concerning the relation among the intercountry patterns of consumption, long and short-term real rates of interest, real exchange rates and fiscal policies are consistent with the stylized facts.

This paper deals with the design of optimal monetary policy and with the interaction between the optimal degrees of wage indexation and foreign exchange intervention. The model is governed by the characteristics of the stochastic shocks which affect the economy and by the information set that individuals possess. Because of cost of negotiations, nominal wages are assumed to be precontracted and wage adjustments follow a simple indexation rule that links wage changes to observed changes in price. The use of the price level as the only indicator for wage adjustments may not permit an efficient use of available information and, may result in welfare loss. The analysis specifies the optimal set of feedback rules that should govern policy aiming at the minimization of the welfare loss. These feedback rules determine the optimal response of monetary policy to changes in exchange rates, interest rates and foreign prices. The adoption of the optimal set of feedback rules results in the complete elimination of the welfare cost arising from the simple indexation rule and from the existence of nominal contracts. Since optimal policies succeed in the elimination of the distortions, issues concerning the nature of contracts and the implications of specific assumptions about disequilibrium positions become inconsequential. The analysis then proceeds to examine the interdependence between the optimal feedback rules and the optimal degree of wage indexation. It is shown that a rise in the degree of exchange rate flexibility raises the optimal degree of wage indexation. One of the key conclusions is the proposition that the number of independent feedback rules that govern a policy must equal the number of independent sources of information that influence the determination of the undistorted equilibrium. Thus, it is shown that with a sufficient number of feedback rules for monetary policy there may be no need to introduce wage indexation. It is also shown that an economy that is not able to choose freely an exchange rate regime can still eliminate the welfare loss by supplementing the(constrained) monetary policy with an optimal rule for wage indexation. The paper concludes with an examination of the consequences of departures from optimal policy by comparing the welfare loss resulting from the imposition of alternative constraints on the degree of wage indexation, on foreign exchange intervention and on the magnitudes of other policy feedback coefficients.