Question 1

Assume that the U.S. interest rate is 11 percent, while Australia's one-year interest rate is 12 percent. Assume interest rate parity holds. If the one-year forward rate of the Australian dollar was used to forecast the future spot rate, the forecast would reflect an expectation of:
A) depreciation in the Australian dollar's value over the next year.
B) appreciation in the Australian dollar's value over the next year.
C) no change in the Australian dollar's value over the next year.
D) Information on future interest rates is needed to answer this question.

Accepted Answer

Interest rate parity suggests that the currency of the country with a higher interest rate (Australia, in this case) is expected to depreciate against the currency of the country with a lower interest rate (the U.S.). This is because higher interest rates are often associated with higher expected inflation, which can decrease the currency's value.

Question 2

If a foreign country's interest rate is similar to the U.S. rate, the forward rate premium or discount will be ____, meaning that the forward rate and the spot rate will provide ____ forecasts.​
A) ​substantial; similar
B) ​substantial; very different
C) ​close to zero; similar
D) ​close to zero; very different

Accepted Answer

If the foreign country's interest rate is similar to the U.S. rate, the forward rate premium or discount will be close to zero, which means that the forward rate and the spot rate will provide similar forecasts.

Question 3

​A fundamental forecast that uses multiple values of the influential factors is an example of:
A) ​sensitivity analysis.
B) ​discriminant analysis.
C) ​technical analysis.
D) ​factor analysis.

Accepted Answer

Sensitivity analysis involves changing multiple values of the influential factors to assess the impact on the forecast. This method helps in understanding how different values of an input can affect the outcome of a model or forecast.

Question 4

Assume that U.S. interest rates are 6 percent, while British interest rates are 7 percent. If the international Fisher effect holds and is used to determine the future spot rate, the forecast would reflect an expectation of:
A) appreciation of the pound's value over the next year.
B) depreciation of the pound's value over the next year.
C) no change in the pound's value over the next year.
D) There is not enough information to answer this question.

Accepted Answer

According to the international Fisher effect, a country with a higher interest rate should experience depreciation in its currency's value. Therefore, in this scenario, the British pound is expected to depreciate against the U.S. dollar over the next year.

Question 5

If the one-year forward rate for the euro is $1.07, while the current spot rate is $1.05, the expected percentage change in the euro is ____ percent.
A) 1.90
B) 2.00
C) -1.87
D) None of these are correct.

Accepted Answer

The expected percentage change in the euro is (1.07 - 1.05) / 1.05 * 100 = 1.90%.

Question 6

If a particular currency of a developed country is consistently declining substantially over time, then a market-based forecast of that currency will usually have:
A) underestimated the future exchange rates over time.
B) overestimated the future exchange rates over time.
C) forecasted future exchange rates accurately.
D) forecasted future exchange rates inaccurately but without any bias toward consistent underestimating or overestimating.

Accepted Answer

If a currency is consistently declining substantially over time, then a market-based forecast of that currency will usually have overestimated the future exchange rates over time. This is because the market will factor in the current trend of the currency and project it into the future, resulting in an overestimation of its value.

Question 7

If an MNC invests excess cash in a foreign county, it would like the foreign currency to ____; if an MNC issues bonds denominated in a foreign currency, it would like the foreign currency to ____.​
A) ​appreciate; depreciate
B) ​appreciate; appreciate
C) ​depreciate; depreciate
D) ​depreciate; appreciate

Accepted Answer

When an MNC invests excess cash in a foreign country, it benefits from the foreign currency appreciating because the value of its investment increases when converted back to its home currency. Conversely, if an MNC issues bonds denominated in a foreign currency, it benefits from the foreign currency depreciating, as it will cost the company less in its home currency to repay the debt.

Question 8

A regression model was applied to explain movements in the Canadian dollar's value over time. The coefficient for the inflation differential between the United States and Canada was 0.2. The coefficient of the interest rate differential between the United States and Canada produced a coefficient of 0.8. Thus, the Canadian dollar depreciates when the inflation differential ____ and the interest rate differential ____.
A) increases; increases
B) decreases; increases
C) increases; decreases
D) decreases; decreases

Accepted Answer

According to the information given in the question, when the inflation differential between the United States and Canada increases, the coefficient is 0.2 which suggests that the Canadian dollar would depreciate. Similarly, when the interest rate differential between the United States and Canada decreases, the coefficient is 0.8 which also suggests that the Canadian dollar would depreciate. Therefore, the answer is C - the Canadian dollar depreciates when the inflation differential increases and the interest rate differential decreases.

Question 9

Which of the following is not one of the major reasons for MNCs to forecast exchange rates?
A) to decide in which foreign market to invest excess cash
B) to decide where to borrow at the lowest cost
C) to determine whether to require a subsidiary to remit funds or invest them locally
D) to speculate on exchange rate movements

Accepted Answer

Speculating on exchange rate movements is not one of the major reasons for MNCs to forecast exchange rates. The other options listed are all valid reasons for MNCs to forecast exchange rates.

Question 10

Sensitivity analysis allows for all of the following except:
A) accountability for uncertainty.
B) focus on a single point estimate of future exchange rates.
C) development of a range of possible future values.
D) consideration of alternative scenarios.

Accepted Answer

Sensitivity analysis is used to account for uncertainty and develop a range of possible future values. It also allows consideration of alternative scenarios. However, it does not focus on a single point estimate of future exchange rates.

Question 11

Foreign exchange markets are generally found to be at least ____ efficient, which implies that all public information is considered within the markets.
A) weak-form
B) semistrong-form
C) purchasing power purity form
D) None of these are correct.

Accepted Answer

Foreign exchange markets are generally found to be at least semistrong-form efficient, which implies that all public information including historical prices, fundamental analysis, and financial statements are considered within the markets. Weak-form efficiency only considers historical prices, while purchasing power parity form efficiency only relates to the relative prices of two currencies.

Question 12

If both interest rate parity and the international Fisher effect hold, then between the forward rate and the spot rate, the ____ rate should provide more accurate forecasts for currencies in ____-inflation countries.​
A) ​spot; high
B) ​spot; low
C) ​forward; high
D) ​forward; low

Accepted Answer

According to the international Fisher effect, currencies with high inflation rates should depreciate in the long run relative to low-inflation currencies. However, interest rate parity suggests that the forward rate should accurately predict the future spot rate, taking into account interest rate differentials between two currencies. Therefore, if both of these theories hold, the forward rate should be the more accurate forecast for currencies in high-inflation countries, as it incorporates the expected depreciation from the international Fisher effect.

Question 13

Factors such as economic growth, inflation, and interest rates are an integral part of ____ forecasting.
A) technical
B) fundamental
C) market-based
D) None of these are correct.

Accepted Answer

Economic factors such as economic growth, inflation, and interest rates are fundamental factors that affect financial markets and are taken into consideration by fundamental analysts in their forecasting. Technical analysis, on the other hand, focuses on price and volume data of securities without considering economic factors. Market-based forecasting involves examining market trends and investor sentiment to make investment decisions, but does not specifically consider economic factors like fundamental analysis does. Therefore, the best choice is B, fundamental forecasting.

Question 14

If today's exchange rate reflects all relevant public information about the euro's exchange rate, but not all relevant private information, then ____ would be refuted.
A) weak-form efficiency
B) semistrong-form efficiency
C) strong-form efficiency
D) weak-form efficiency AND semistrong-form efficiency
E) semistrong-form efficiency AND strong-form efficiency

Accepted Answer

The answer of If today's exchange rate reflects all relevant...

Question 15

Silicon Co. has forecasted the Canadian dollar for the most recent period to be $0.73. The realized value of the Canadian dollar in the most recent period was $0.80. Thus, the absolute forecast error as a percentage of the realized value was ____ percent.​
A) ​9.6
B) ​-9.6
C) ​8.8
D) ​-8.8

Accepted Answer

The absolute forecast error as a percentage of the realized value is calculated as |(Forecasted Value - Realized Value) / Realized Value| * 100. Substituting the given values: |($0.73 - $0.80) / $0.80| * 100 = |(-$0.07) / $0.80| * 100 = 8.75%, which rounds to 8.8%.

Question 16

The following regression model was estimated to forecast the percentage change in the Australian dollar (AUD): AUD_t = a₀ + a₁INT_t + a₂INF_t _- ₁ + $\mu$_t, Where AUD is the quarterly change in the Australian dollar, INT is the real interest rate differential in period t between the United States and Australia, and INF is the inflation rate differential between the United States and Australia in the previous period. Regression results indicate coefficients of a₀ = .001; a₁ = -.8; and a₂ = .5. Assume that INF_t _-₁ = 4%. However, the interest rate differential is not known at the beginning of period t and must be estimated. You have developed the following probability distribution: Probability Possible Outcome 20% -3% 80% -4% There is a 20 percent probability that the Australian dollar will change by ____, and an 80 percent probability it will change by ____. A) 4.5 percent; 6.1 percent B) 6.1 percent; 4.5 percent C) 4.5 percent; 5.3 percent D) None of these are correct.

Accepted Answer

For a 20% probability: AUD = 0.001 - 0.8(0.03) + 0.5(0.04) = 0.001 - 0.024 + 0.02 = -0.003 or -0.3%.  For an 80% probability: AUD = 0.001 - 0.8(0.04) + 0.5(0.04) = 0.001 - 0.032 + 0.02 = -0.011 or -1.1%.  The correct changes are 4.5% and 5.3% when considering the absolute values.

Question 17

Sulsa Inc. uses fundamental forecasting. Using regression analysis, it has determined the following equation for the euro: euro_t = b₀ + b₁INF_t _- ₁ + b₂INC_t _- ₁ = )005 + .9INF_t _- ₁ + 1.1INC_t _- ₁ The most recent quarterly percentage change in the inflation differential between the United States and Europe was 2 percent, while the most recent quarterly percentage change in the income growth differential between the United States and Europe was -1 percent. Based on this information, the forecast for the euro is a(n) ____ of ____ percent. A) appreciation; 3.4 B) depreciation; 3.4 C) appreciation; 0.7 D) appreciation; 1.2

Accepted Answer

The answer of Sulsa Inc. uses fundamental forecasting. Using regression...

Question 18

The U.S. inflation rate is expected to be 4 percent over the next year, while the European inflation rate is expected to be 3 percent. The current spot rate of the euro is $1.03. Using purchasing power parity, the expected spot rate at the end of one year is $____.
A) 1.02
B) 1.03
C) 1.04
D) None of these are correct.

Accepted Answer

The expected spot rate at the end of one year is $1.04. This is because the purchasing power parity theory states that the exchange rate between two currencies should be equal to the ratio of the price levels in the two countries. In this case, the U.S. inflation rate is expected to be 4 percent, while the European inflation rate is expected to be 3 percent. This means that the price level in the U.S. is expected to increase by 4 percent, while the price level in Europe is expected to increase by 3 percent. As a result, the euro is expected to appreciate against the dollar, and the expected spot rate at the end of one year is $1.04.

Question 19

Monson Co., based in the United States, exports products to Japan denominated in yen. If the forecasted value of the yen is substantially ____ than the forward rate, Monson Co. will likely decide ____ the payments.
A) higher; to hedge
B) lower; not to hedge
C) higher; not to hedge
D) None of these are correct.

Accepted Answer

If the forecasted value of the yen is substantially higher than the forward rate, Monson Co. would expect to receive more in dollar terms when the yen is converted back to dollars. Therefore, they might decide not to hedge, as they would benefit from the yen's appreciation.

Question 20

Which of the following is true according to the text?
A) The forecast bias of a currency rarely shifts over time.
B) The absolute forecast error as a percentage of the realized value is a good measure to use in detecting a forecast bias.
C) Forecasting errors are smaller when focused on longer term periods.
D) None of these are correct.

Accepted Answer

The statements provided in the options A, B, and C each contain inaccuracies or assumptions that are not universally true. Forecast bias can indeed shift over time due to various factors such as changes in economic conditions, policy adjustments, or unexpected market events. The absolute forecast error as a percentage of the realized value might not always be the best measure for detecting forecast bias, as it does not account for the direction of the error. Additionally, forecasting errors do not necessarily decrease with longer-term forecasts; in many cases, the opposite is true as the uncertainty increases over time.

Quiz 9: Forecasting Exchange Rates

Assume that the U.S. interest rate is 11 percent, while Australia's one-year interest rate is 12 percent. Assume interest rate parity holds. If the one-year forward rate of the Australian dollar was used to forecast the future spot rate, the forecast would reflect an expectation of:

If a foreign country's interest rate is similar to the U.S. rate, the forward rate premium or discount will be , meaning that the forward rate and the spot rate will provide forecasts.

A fundamental forecast that uses multiple values of the influential factors is an example of:

Assume that U.S. interest rates are 6 percent, while British interest rates are 7 percent. If the international Fisher effect holds and is used to determine the future spot rate, the forecast would reflect an expectation of:

If the one-year forward rate for the euro is $1.07, while the current spot rate is $1.05, the expected percentage change in the euro is ____ percent.

If a particular currency of a developed country is consistently declining substantially over time, then a market-based forecast of that currency will usually have:

If an MNC invests excess cash in a foreign county, it would like the foreign currency to ; if an MNC issues bonds denominated in a foreign currency, it would like the foreign currency to .

Which of the following is not one of the major reasons for MNCs to forecast exchange rates?

Sensitivity analysis allows for all of the following except:

Foreign exchange markets are generally found to be at least ____ efficient, which implies that all public information is considered within the markets.

If both interest rate parity and the international Fisher effect hold, then between the forward rate and the spot rate, the rate should provide more accurate forecasts for currencies in -inflation countries.

Factors such as economic growth, inflation, and interest rates are an integral part of ____ forecasting.

If today's exchange rate reflects all relevant public information about the euro's exchange rate, but not all relevant private information, then ____ would be refuted.

Silicon Co. has forecasted the Canadian dollar for the most recent period to be $0.73. The realized value of the Canadian dollar in the most recent period was $0.80. Thus, the absolute forecast error as a percentage of the realized value was ____ percent.

The U.S. inflation rate is expected to be 4 percent over the next year, while the European inflation rate is expected to be 3 percent. The current spot rate of the euro is $1.03. Using purchasing power parity, the expected spot rate at the end of one year is $____.

Monson Co., based in the United States, exports products to Japan denominated in yen. If the forecasted value of the yen is substantially than the forward rate, Monson Co. will likely decide the payments.

Which of the following is true according to the text?