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Milton Friedman and EMH November 19, 2008

Posted by A Texan In Grad School in Economic Theories, Friedman.

I recently attended a symposium at Chapman University titled “What Would Milton Friedman Do?”  David Friedman was one of the panel members and he relayed a common argument of his father’s regarding efficient markets.  I found a version of the story here at the Philly Fed:

Milton Friedman in comments he made about the Mexican peso market of the early
1970s. At that time, the exchange rate between the U.S. dollar and Mexican peso was fixed, as it had been since 1954. At the same time, the interest rate on Mexican bank deposits exceeded the interest rate on comparable U.S. bank deposits. This situation might seem like a flaw in the financial markets, since investors could borrow at the low interest rate in the United States, convert dollars into pesos, deposit the money in Mexico and earn a higher interest rate, then convert the proceeds back into dollars at the same exchange rate and pay off their borrowings,
making a tidy profit. Friedman noted that the interest rate differential between Mexico and the
United States must have reflected financial market concerns that the peso would be devalued.
Otherwise, the interest-rate differential would soon disappear as investors increasingly took
advantage of it. In August 1976, those concerns were justified when the peso was allowed to float against the dollar and its value fell 46 percent.



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