2. Implications of IRP. Assume that interest rate parity exists. You expect that

Question

2. Implications of IRP.
Assume that interest rate parity exists. You expect that the one year nominal interest rate in the United States is 7 percent, while the one year nominal interest rate in Australia dollar is 11 percent. The spot rate of Australian dollars is $.60. You will need 10 million Australian dollars in one year. Today, you purchase a one year forward contract in Australian dollars. How many U.S. dollars will you need in one year to fulfill you forward contract?

3. forecasting the future spot rate based on IFE
Assume that the spot exchange rate of the Singapore dollar is $.70. The one year interest rate is 11 percent in the United States and 7 percent in Singapore. What will the spot rate be in one year according to the IFE? What is the force that causes the spot rate to change according to the IFE?

4. Implications of ppp
Today’s spot rate of the Mexican peso in $.10. Assume that purchasing power parity holds. The U.S. inflation rate over this year is expected to be 7 percent, while the Mexican inflation over this year is expected to be 3 percent. Wake forest Co. plans to import from Mexico and will need 20 million Mexican pesos in one year. Determine the expected amount of dollars to be paid by the wake Forest Co. for the peso in one year.

Explanation / Answer

4)Implication of ppp(purchase power parity) So=current spot exchange rate- $.10 E(st)=Expected exchange rate is t periods- $.10*1.04=.104 h(us)=Inflation rate in the united states- 7% h(fc))=foreign country inflation rate- 3% E(s)=s(o)[1+(h(fc)-h(us))] =$.10[1+(.03-.07)] =$.10(.96) =$.096

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