Price Discovery and Liquidity for Competing Exchange Rates

For many countries, trading on news on their fundamentals mainly occurs via two competing channels, namely, their currency's exchange rate with either the Euro or the US dollar. This paper presents a framework to examine price discovery across these two alternatives. Our empirical implementation suggests that during the early/mid 2000's for the Swiss Franc most price discovery seem to take place via its exchange rate with the Euro whereas the opposite was true for the Japanese Yen. Furthermore, we establish a link of unusual strength between relative liquidity and the daily (and cross-sectional) variation in informational advantage among these two channels. Subsequent analysis finds a plausible mechanism driving this prominent role of liquidity based on a novel measure of staleness.