Reading 18- LOS g (Part 1)～ Q6－10

6.he domestic interest rate is 9 percent and the foreign interest rate is 7 percent. If the forward exchange rate is 5 domestic units per foreign unit, what spot exchange rate is consistent with interest rate parity?

A)   4.91.

B)   5.09.

C)   5.72.

D)   4.83.

The correct answer was A)

F/S = (1 + r_domestic) / (1 + r_foreign). Note: in this equation, exchange rates are quoted as Domestic/Foreign.

S = F (1 + r_F)/(1 + r_D) = (5)(1.07)/(1.09) = 4.908

7.e domestic interest rate is 7 percent and the foreign interest rate is 9 percent. If the forward exchange rate is 5 domestic units per foreign unit, what spot exchange rate is consistent with interest rate parity?

A)   5.09.

B)   5.72.

C)   4.83.

D)   4.91.

The correct answer was A)

Using the following interest rate parity equation:

Forward_DC/FC=Spot_DC/FC * [(1+r_domestic)/(1+r_foreign )] 

Solving for the spot rate:  Spot_DC/FC = Forward_DC/FC * [(1+r_foreign)/(1+r_domestic)] 

                                    = [(1+.09)/(1+.07)](5)

                                    = (1.09/1.07)(5)

                                    = 5.09

8.e domestic interest rate is 8 percent and the foreign interest rate is 6 percent. If the spot rate is 4 domestic units/foreign unit, what should the forward exchange rate be for interest rate parity to hold?

A)   3.930.

B)   4.250.

C)   4.075.

D)   4.320.

The correct answer was C)

Using the following interest rate parity equation:

Forward_DC/FC=Spot_DC/FC * [(1+r_domestic)/(1+r_foreign )] 

Solving for the forward rate:  Forward_DC/FC = 4 * [(1+.08)/(1+.06)]

                                     = 4(1.08)/(1.06)

                                    = 4(1.01887)

                                    = 4.07547         

9.ven the following information, what is the forward exchange rate implied by interest rate parity?

§ U.S. interest rate = 9%

§ North Korea interest rate = 10%

§ Spot rate = 1.65 KPW/$

A)   1.665 KPW/$.

B)   1.635 KPW/$.

C)   0.601 KPW/$.

D)   0.612 KPW/$.

The correct answer was A)     

Fwd rate (DC/FC) = Spot Rate (DC/FC)* [(1 + domestic rate) / (1 + foreign rate)],
Fwd rate = 1 / 1.65 (KPW/$) * (1.09 / 1.10) = 0.60055 $/KPW, or 1.665 KPW/$.
Alternatively, Forward rate = 1.65 (KPW/$) * (1.10/1.09) = 1.665 (KPW/$).

10．pose the Argentina peso is at a 1-year forward premium of 4% relative to the Brazilian real and that Argentina’s 1-year interest rate is 7%. If interest rate parity holds, then the Brazilian interest rate is closest to:

A)   6.60%.

B)   11.00%.

C)   7.40%.

D)   3.00%.

The correct answer was B)

According to interest rate parity the currency with the lower interest rate is expected to appreciate so the Argentina rate of 7% is approximately 4% less than the Brazilian rate of 7 + 4 = 11%.