Exchange Rate Disconnect with Disagreeing Arbitrageurs
Job Market Paper
October 25, 2026
I develop a two-country general equilibrium model in which international arbitrageurs disagree about future exchange rates. Trading gains and losses redistribute wealth across arbitrageurs, changing whose beliefs determine equilibrium prices. This mechanism amplifies exchange rate responses to standard macroeconomic shocks and generates an endogenous wedge in uncovered interest parity, without requiring a separate financial shock. Calibrated to macroeconomic, financial, and survey data, the model accounts for exchange rates’ high volatility and weak relationship with observable fundamentals. The calibrated wealth-share multiplier implies that amplification accounts for approximately 62 percent of exchange rate standard deviation.