Exam 15: Exchange Rates, Interest Rates, and Interest Parity

A constant differential between the interest rates of two countries over different terms to maturity implies that future changes in the exchange rate are expected to occur at which rate?

The domestic currency value of the return on a foreign investment when the foreign currency proceeds are sold in the forward market, is defined to be the

One of the negative side effects of financial globalization is that national economic policies lack the discipline that they did in the past.

Explain briefly PPP and IRP. Why might the latter hold better than the former over time?

Suppose that the 12-month interest rates for the United States and the United Kingdom are 7% and 6% respectively, and E = 2.10 $/£. Given this information, what is the expected exchange rate change over the year?

Differences between the term structure of interest rates in two countries will reflect

If the 12-month interest rates for the United States and the United Kingdom are 6% and equal, and £1 = $2 in the spot market, then what do you expect the 12-month forward rate to be?

Suppose that the effective return to a U.S. investor from buying a U.K. bond is 5.55%. Forward and spot exchange rates ($/£) are 2.10 and 2.00 respectively. The interest rate on the U.K. bond is most likely equal to:

Suppose that in the United States and the United Kingdom the real rate of interest is 1 percent and constant. In this case, the nominal interest rates in both countries

The relation indicates that the interest differential between investments in two currencies will equal the forward premium or discount between the currencies.

Interest differentials cause exchange rate changes.

Covered interest arbitrage ensures

The higher the expected inflation rate in a country, the lower is the nominal interest rate in that country.

Give 3 reasons for deviations from IRP. Do these deviations indicate unexploited profit opportunities for investors?

Change in U.S. policy can lead to changes in inflationary expectations, interest rates, and exchange rates simultaneously as they all adjust to new equilibrium levels.

How are interest rates and inflation rates related?

Deviations from interest rate parity occur due to

The relationship that says that the forward premium or discount is equal to the interest differential is

Careful studies of the data indicate that deviations from interest parity are

Suppose that at some point the spot exchange rate is equal to 100 yen per one U.S. dollar, while the interest rate in dollars is 6% and the interest rate in yen is 1%. What is the approximate forward rate that is consistent with this situation?