6. Assume that a bank has assets located in the EU worth 101 million euros, on w

Question

6. Assume that a bank has assets located in the EU worth 101 million euros, on which it earns an average of 9% per year. The bank has 76 million Euros in liabilities on which earns an average of 5% per year. The spot exchange rate is 0.76 euros/$.

a. If the exchange rate at the end of the year is 0.79euros/$, will the dollar have appreciated or depreciated against the euro ?

b. Given the change in the exchange rate, what is the effect in dollars on the net interest income from foreign assets and liabilities ?

Explanation / Answer

a) if the exchange rate is 0.79 euros/$ then dollar have appreciated against Euro as it has become more costly.

b)Net interest = 101*9/100 - 76*5/100 = 5.29 million euros.

At spot rate = 5.29/0.76 = 6.9605 milion $

At end of year = 5.29/0.79 = 6.6962 million $

So net effect = $0.2643 million

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