Suppose the interest rate differential between dollar and yen
deposits drops to 2%. Explain what will happen to expected
exchange rate and spot rate.
9.
Given the following information:
Spot rate of Swiss Franc …………………………………………….1 Frank=$ 0.80
Forward rate of Swiss Franc ……………………………
……..…….1 Frank=$ 0.79
Spot rate of Swiss Franc …………………………………………….1 Frank=TL 1.89
Forward rate of Swiss Franc ……………………………
……..…….1 Frank=TL 1.95
Interest rate on Swiss Franc deposits……
………………………….
4 %
Interest rate on US dollar deposits…………………..…………….….
2.5 %
Interest rate on Turkish Lira deposits…………………..…………….….
5 %
what rate of return can be earned on $1m from covered interest arbitrage i) by a US
investor and ii) by a Turkish investor? Is it worthwhile undertaking?
10
.
Given the following data:
Current US 1-year interest rate: 6%
Current exchange rate $1.00 =
€
0.90
Expected exchange rate one year from now: $1.00 =
€
0.85
a) What is the equilibrium Eurozone interest rate using the approximated UIRP formula
equation?
b) What is the equilibrium Eurozone interest rate using the full UIRP formula equation?
c) Compute the cross-product term (the term that drops when we calculate approximated
version) and show that it accounts for the difference between
your answer to (a) and (b)
d) In the context of UIRP, could one or both countries have negative interest rates? In
the example here, are any of the three variables given above likely to be bounded so as to
prevent the interest rate on Euros becoming negative?

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