F/X question - what am i missing here? question, currency, domestic

zbird2134

The domestic interest rate is 9% and the foreign interest rate is 7%. If the forward exchange rate is 5 domestic units per foreign unit, what spot exchange rate is consistent with interest rate parity?
A) 4.83.
B) 5.09.
C) 4.91.
Your answer: B was incorrect. The correct answer was C) 4.91.
If the domestic interest rate is higher than the foreign, doesn’t it hold that the domestic currency should depreciate? So right now, 1 foreign unit can buy me 5 domestic units. If the domestic depreciates, shouldn’t 1 Foreign unit buy me more than 5 domestic units? I feel like this F/X should be easy, but i’m always getting things backwards and screwing it up….

dreampak

ah yes… DC:FC = FC/DC
that makes it correct. Giving the forward rate as DC/FC makes it tricky!
I should have caught that, sonovabitch!

Roflnadal

F is DC/FC
for S to be DC/FC mode
so S*[(1+rdc)/(1+rfc)] = F