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QUESTION 1
A currency dealer has good credit and can borrow either $1,000,000 or €800,000 for one year. The one-year inflation rate in the U.S. is π$ = 2.5% and in the euro zone the one-year inflation rate is π€ = 5.5%. The one-year forward exchange rate is $1.20 = €1.00; what must the spot rate be to eliminate arbitrage opportunities?
$1.2471 = €1.00
$1.1547 = €1.00
$1.0200 = €1.00
$1.2351 = €1.00
5 points
QUESTION 2
Suppose that the annual interest rate is1.5 percent in the United States and 3 percent in Germany, and that the spot exchange rate is $1.57/€ and the forward exchange rate, with one-year maturity, is $1.58/€. Assume that an arbitrager can borrow up to $1,000,000 or €625,000. If an astute trader finds an arbitrage, what is the arbitrage profit in one year?
€10,262
€13,390
$46,207
$21,561
5 points
QUESTION 3
The Mexican peso/US$ spot exchange rates in December 1997 and December 1998 were 6.3 and 7.0, respectively. During 1998 inflation rates in Mexico and US were at 23% and 5%, respectively, and the one-year interest rates in December 1998 in pesos and dollars were 15% and 8%, respectively. What happened to the real value of the peso during 1998?
Mexican peso appreciated by 5.43% against US dollar
Mexican peso depreciated by 7.00% against US dollar
Mexican peso appreciated by 7.00% against US dollar
Mexican peso depreciated by 5.43% against US dollar
5 points
QUESTION 4
You are a U.S.-based treasurer with $1,000,000 to invest. The dollar-euro exchange rate is quoted as $1.53 = €1.00 and the dollar-pound exchange rate is quoted at $1.83= £1.00. If a bank quotes you a cross rate of £1.00 = €1.12 how much money can an astute trader make?
$41,667
$67,927
$160,000
No arbitrage is possible
5 points
QUESTION 5
On November 1, 1999, the exchange rate between the Brazilian real and U.S. dollar is R$1.95/$. The consensus forecast for the U.S. and Brazil inflation rates for the next 3-year period is 2.6% and 20.0% per year, respectively. What would you forecast the exchange rate to be at around November 1, 2002?
R$2.2807/$
R$3.6673/$
R$3.1199/$
R$2.6675/$
5 points
QUESTION 6
Using the table below,
American Terms
European Terms
Bank Quotations
Bid
Ask
Bid
Ask
British pounds
$1.9700
$1.9715
£ 0.5072
£ 0.5076
Euros
$1.474
$1.485
€ 0.6734
€ 0.6784
What are the bid and ask prices of euros in terms of pounds, respectively?
€/£: 1.3266 – 1.3375
£/€: 0.7476 – 0.7479
€/£: 1.3276 – 1.3364
£/€: 0.7476 – 0.7538
5 points
QUESTION 7
Using the table below,
American Terms
European Terms
Bank Quotations
Bid
Ask
Bid
Ask
British pounds
$1.9700
$1.9715
£ 0.5072
£ 0.5076
Euros
$1.474
$1.485
€ 0.6734
€ 0.6784
What are the bid and ask prices of pounds in terms of euros, respectively?
£/€: 0.7476 – 0.7479
€/£: 1.3266 – 1.3375
£/€: 0.7476 – 0.7538
€/£: 1.3276 – 1.3364
5 points
QUESTION 8
A German businessman has just completed transactions in America and England. He is now holding $100,000 and £500,000, and wants to convert both amounts to the euro. His bank quotes him the following exchange rates: GBP/USD £0.5031–£0.5057, and USD/EUR $1.4740–$1.4744. What are his proceeds from conversion?
€738,421.39
€735,911.27
€742,691.86
€738,621.77
5 points
QUESTION 9
The current spot exchange rate is $1.95/£ and the three-month forward rate is $1.90/£. Based on your analysis of the exchange rate, you are pretty confident that the spot exchange rate will be $1.88/£ in three months. Assume that you would like to buy or sell £1,000,000. What actions do you need to take to speculate in the forward market and what is the expected dollar payoff from speculation?
sell £1,000,000 forward; expected profit is $30,000
buy £1,000,000 forward; expected profit is $20,000
sell £1,000,000 forward; expected profit is $20,000
buy £1,000,000 forward; expected profit is $30,000
5 points
QUESTION 10
Suppose that the current spot exchange rate is €0.80/$ and the three-month forward exchange rate is €0.7813/$. The three-month interest rate is 5.60 percent per annum in the United States and 5.40 percent per annum in France. Which of the following is going to happen as a result of covered arbitrage activities toward restoring the interest parity condition?
The euro interest rate will fall
The dollar interest rate will fall
The €/$ spot exchange rate will rise
The €/$ forward exchange rate will fall
5 points
QUESTION 11
Suppose that the one-year interest rate is 6.0 percent in the United States; the spot exchange rate is $1.21/€; and the one-year forward exchange rate is $1.24/€. What must one-year interest rate be in the euro zone to avoid arbitrage?
3.44%
8.62%
7.24%
5.0%
5 points
QUESTION 12
Investors in both the U.S. and U.K. require the same real interest rate, 3%, on their lending. There is a consensus in capital markets that the annual inflation rate is likely to be 2% in the U.S. and 1.5% in the U.K. for the next three years. The spot exchange rate is currently $1.50/£. Using parity conditions, what is the most likely forward dollar-pound exchange rate for one-year maturity?
$1.5350/₤
$1.5075/₤
$1.4925/₤
$1.50/₤
5 points
QUESTION 13
Suppose that the current spot exchange rate is €0.8210/$ and the three-month forward exchange rate is €0.7895/$. The three-month interest rate is 6 percent per annum in the United States and 8 percent per annum in France. Assume that you can borrow up to $1,000,000 or €821,000.
There is no arbitrage opportunity.
Arbitrage can generate a net profit around $45,697.
Arbitrage can generate a net profit around €36,077.
Both B) and C)
5 points
QUESTION 14
On July 2, 1997 the Thai Baht fell 17% against the US dollar. By how much did the dollar appreciate against the baht??
117%
20.5%
17%
120.5%
5 points
QUESTION 15
A currency dealer has good credit and can borrow either $1,000,000 or €800,000 for one year. The one-year interest rate in the U.S. is i$ = 3.5% and in the euro zone the one-year interest rate is i€ = 6.5%. The spot exchange rate is $1.25 = €1.00 and the one-year forward exchange rate is $1.20 = €1.00. Show how to realize a certain profit via covered interest arbitrage.
Borrow $1,000,000 at 3.5%. Trade $1,000,000 for €800,000; invest at i€ = 6.5%; translate proceeds back at forward rate of $1.20 = €1.00, gross proceeds = $1,022,400.
Borrow €800,000 at i€ = 6.5%; translate to dollars at the spot, invest in the U.S. at i$ = 3.5% for one year; translate €852,000 back into dollars at the forward rate of $1.20 = €1.00. Net profit $12,600.
Borrow €800,000 at i€ = 6%; translate to dollars at the spot, invest in the U.S. at i$ = 3.5% for one year; translate $1,035,000 back into euro at the forward rate of $1.20 = €1.00. Net profit €10,500.
Both B) and C)
5 points
QUESTION 16
During 2002 the yen went from $ 0.0074074/yen at the beginning of the year to $0.0084746/yen at the end of the year. What are the amount of appreciation/depreciation for the yen and the dollar, respectively?
Appreciation by 14.41%, depreciation by 12.59%
Appreciation by 14.41%, depreciation by 14.41%
Appreciation by 12.59%, depreciation by 12.59%
Appreciation by 12.59%, depreciation by 14.41%
5 points
QUESTION 17
Purchasing Power Parity (PPP) theory states that
the exchange rate between currencies of two countries should be equal to the ratio of the countries' price levels.
as the purchasing power of a currency sharply declines (due to hyperinflation) that currency will appreciate against stable currencies.
the prices of standard commodity baskets in two countries are not related.
both a) and b)
5 points
QUESTION 18
During the currency crisis of September 1992, the Bank of England borrowed DM 33 billion from the Bundesbank when a pound was worth DM 2.78 or $1.912. It sold these DM in the foreign exchange market for pounds in a futile attempt to prevent a devaluation of the pound. It repaid these DM at the post-crisis rate of DM 2.50=£1. By then, the dollar/pound exchange rate was $1.782=£1. By what percentages had the pound sterling devalued in the interim against the Deutsche mark and against the dollar, respectively?
-11.20%, -7.30%
-10.07%, -6.80%
-11.20%, -6.80%
-10.07%, -7.30%
5 points
QUESTION 19
During the currency crisis of September 1992, the Bank of England borrowed DM 33 billion from the Bundesbank when a pound was worth DM 2.78 or $1.912. It sold these DM in the foreign exchange market for pounds in a futile attempt to prevent a devaluation of the pound. It repaid these DM at the post-crisis rate of DM 2.50=£1. By then, the dollar/pound exchange rate was $1.782=£1. What were the cost of intervention to the Bank of England in pounds and in dollars, respectively?
9.2400 billion pounds, 1.2012 billion dollars
1.3295 billion pounds, 2.3692 billion dollars
1.3295 billion pounds, 2.5420 billion dollars
1.3295 billion pounds, 0.8260 billion dollars
5 points
QUESTION 20
(Challenging!!) Suppose that the following prices are quoted in the markets where forward rates and interest rates on Euro-$ and on Euro-¥ are all for 1-year ahead. [Hint: Refer to the relevant information on covered interest arbitrage with bid-ask spreads to solve the problem.]
Bid
Ask
Spot (¥/$)
99.95
100.05
Forward(¥/$)
97.00
98.00
Euro-$ (%)
4.95
5.05
Euro-¥ (%)
1.95
2.05
Which of the following is true?
It is impossible to make an arbitrage profit.
The strategy that borrows ¥ in Euro-¥ market and invests equivalent in Euro-$ market is profitable.
The strategy that borrows $ in Euro-$ market and invests equivalent in Euro-¥ market is profitable.
Both B) and C).
