Question

In: Finance

Assume the following information: 1 - year U.S. interest rate = 3% 1- year German interest...

Assume the following information:

1 - year U.S. interest rate = 3%

1- year German interest rate = 6%

Spot rate of euro = $1.09

  1. What is the central bank likely to do and how will this affect the value of the euro?

  2. Without using an exchange rate model, what is your prediction for the one year forward rate given the likely action of Germany’s central bank, all things being equal?   

  3. Using the interest rate parity equation, was your prediction correct? What should the forward rate be?   

  4. Based on the one year forward rate you predicted, which investor is likely to benefit from covered interest arbitrage?   

  5. Compute the profit and yield to the investor who stands to benefit from covered interest arbitrage.   

Solutions

Expert Solution

Forward rate of eurowill trade at discount as the int rate on euro is greater than US.

As per IRP - F is dollar 1.0592 per Euro

As per CIS - Neither of the party is getting benefit .

jeff jeffy answered 1 year ago
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