Manuel Mendoza Lujambio
TEC DE MONTERREY
Assume the Federal Reserve believes that the dollar should be weakened against the
Mexican peso. Explain how, the Fed could use direct and indirect intervention to weaken
the dollar's value with respect to the peso. Assume that future inflation in the United
States is expected to be low, regardless of the Fed's actions.
It will apply talking about direct intervention, a speculating intervention where it intervenes in order to
anticipate some results, so it would sell dollars. Or by using indirect intervention, it can reduce the
supply of the dollar so the value of the dollar increases, and the devaluation will increase the peso.
Exchange Rate Systems. Compare and contrast the fixed, freely floating, and managed
float exchange rate systems. What are some advantages and disadvantages of a freely
floating exchange rate system versus a fixed exchange rate system?
Fixed exchange rate system, some advantages are that it insulate country risk of currency appreciation,
also allows firms to engage in direct foreign investment without currency risk. And some disadvantages
are that the risk that the government will alter the values of the currency. In the freely floating exchange
rate system, the advantages are that the country is more insulated from inflation of other countries, also
the country is more insulated from unemployment of other countries, and finally, it doesn’t require the
central bank to maintain exchange rates within specific boundaries. The disadvantages are that can
adversely affect a country that has high unemployment, and also can adversely affect a country with
high inflation. In the managed float exchange rate system, the governments sometimes intervene to
prevent their currencies form moving too far in a certain direction, an also manipulate exchange rates to
benefit its own country at the expense of others.
Locational Arbitrage. Assume the following information:
Bid price of New Zealand dollar
Ask price of New Zealand dollar $0.404
Given this information, is locational arbitrage possible? If so, explain the steps involved in
locational arbitrage, and compute the profit from this arbitrage if you had $1 million to use.
What market forces would occur to eliminate any further possibilities of locational arbitrage?
Yes, is possible the locational arbitrage. You will need to sell the $1 million dollars to Yardley Bank at a
price of 1/.400 NZdollar/dollar, so it would have 2,500,000 New Zealand dollars then you will need buy
with those New Zealand dollars in the Beal Bank at a price of .401 dollar/NZdollar and you will have
$1,002,500 dollars. And you will have a profit of $2,500 dollars. To force the elimination of locational
arbitrage it need to drive prices to adjust in different locations so as to eliminate discrepancies, so the