Comment on: Exchange rate pass-through, exchange rate volatility, and exchange rate disconnect

The Devereaux-Engel paper (2002) addresses two long-standing puzzles in international economics: 1. exchange rate volatility, and 2. its disconnect. Their paper's main argument is straightforward. If economists impose conditions on a model so that the exchange rate is (approximately) irrelevant to product markets - by eliminating substitution and wealth effects of exchange-rate changes - then noise or irrational speculation can generate any degree of exchange-rate volatility and disconnect puzzles. The predictions of the Devereaux-Engel model about the behavior of excess returns is not consistent with the data. With a constant risk premium, the model implies that Fama type regressions of exchange-rate changes on the forward premium should generate coefficients between zero and one, while they tend to be negative in the data. Noise traders may very well play a role in exchange rate volatility, but the question remains very open.