The New Palgrave Dictionary of Economics

2018 Edition
| Editors: Macmillan Publishers Ltd

Peso Problem

  • Karen K. Lewis
Reference work entry


If market participants expect a future discrete change in asset fundamentals, then rational forecast errors may be correlated with current information and have a mean different from zero in finite samples. This statement may seem inconsistent with the standard assumption that forecast errors are orthogonal to current information and have a mean of zero. By contrast, this article describes how this phenomenon may be rational using the example of the Mexican peso market in which it was first noted. It then illustrates how the peso problem applies more generally to a wide range of asset prices.


Efficient markets hypothesis Foreign exchange risk premium Friedman, M. German hyperinflation Learning Martingales Peso problem Rational expectations Regimeswitching models Risk neutrality Stock price volatility Term premium White noise 

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Copyright information

© Macmillan Publishers Ltd. 2018

Authors and Affiliations

  • Karen K. Lewis
    • 1
  1. 1.