A currency dealer has good credit and can borrow

24) A currency dealer has good credit and can borrow either $1,000,000 or €800,000 for one
year. The one-year interest rate in the U.S. is i
$
= 2% and in the euro zone the one-year interest
rate is i
€
= 6%. The one-year forward exchange rate is $1.20 = €1.00; what must the spot rate be
to eliminate arbitrage opportunities?
A) $1.2471 = €1.00
B) $1.20 = €1.00
C) $1.1547 = €1.00
D) none of the options
Answer: A
Explanation: Solve the following for X : (1.06/1.02) × 1.2 = X
Topic: Interest Rate Parity and Exchange Rate Determination

25) Will an arbitrageur facing the following prices be able to make money?
Borrowing Lending Bid Ask
$ 5% 4.5% Spot $1.00 = €1.00 $1.01 = €1.00
€ 6% 5.5% Forward $0.99 = €1.00 $1.00 = €1.00
C
Topic: Reasons for Deviations from Interest Rate Parity
26) If IRP fails to hold,
D
Topic: Reasons for Deviations from Interest Rate Parity
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27) Although IRP tends to hold, it may not hold precisely all the time
D
Topic: Reasons for Deviations from Interest Rate Parity
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28) The interest rate at which the arbitrager borrows tends to be higher than the rate at which he
lends, reflecting the
A) transaction cost paradigm.
B) midpoint.
C) bid-ask spread.
D) none of the options
Answer: C
Topic: Reasons for Deviations from Interest Rate Parity
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29) Governments sometimes restrict capital flows, inbound and/or outbound. They achieve this

objective by means of
C
Topic: Reasons for Deviations from Interest Rate Parity
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