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In Class Exercise 5

In Class Exercise 5 - Fin536 Exercises 5 FX determination...

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Fin536 Exercises 5 FX determination and Interest Rate&Currency Swaps 1 Use the following table of swap quotes for relevant questions in this exercise. Table 1 Interest Rate and Currency Swap Quotes Note: Typical presentation by the Financial Times. Bid and ask spreads as of close of London business. All quotes are against LIBOR. 1. (News) The Fed will meet next week to decide the interest rate on the U.S. dollar. The current interest rate is 0.5%. The market’s consensus is that the Fed will leave the rate unchanged in the coming meeting. Using the asset pricing approach, discuss how the U.S. dollar will react against other currencies in each of the following scenarios. a. The Fed lowers interest rate further to 0.25%. b. The Fed keeps the interest rate at 0.5%. c. The Fed raises the interest rate to 0.75%. 2. (Effect of inflation on currency) The U.S. economy is on the track of sustainable growth now. This leads to fears of inflation and likely action by the Federal Reserve to raise interest rates to contain the inflation. a. Based on the PPP theory, discuss whether the U.S. dollar is going to get stronger or weaker.
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