Exhibit 20-1
Assume a U.S.-based MNC is borrowing Romanian leu at an interest rate of 8 percent for one year. Also assume that the spot rate of the leu is $.00012 and the one-year forward rate of the leu is $.00010. The expected spot rate of the leu one-year from now is $.00011.

-Refer to Exhibit 20-1 above. What is the effective financing rate for the MNC assuming that it borrows leu on a covered basis?

Question

Exhibit 20-1
Assume a U.S.-based MNC is borrowing Romanian leu at an interest rate of 8 percent for one year. Also assume that the spot rate of the leu is $.00012 and the one-year forward rate of the leu is $.00010. The expected spot rate of the leu one-year from now is $.00011.
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-Refer to Exhibit 20-1 above. What is the effective financing rate for the MNC assuming that it borrows leu on a covered basis?

Quizplus · Accepted Answer

The effective financing rate for the MNC borrowing leu on a covered basis can be calculated as follows:
Forward premium = (F-S)/S = ($.00010 - $.00012)/$.00012 = -0.1667 or -16.67%
Effective financing rate = (1 + borrowing rate) x (1 + forward premium) - 1
= (1 + 0.08) x (1 - 0.1667) - 1
= 0.10 or 10%

Exhibit 20-1 Assume a U.S.-Based MNC Is Borrowing Romanian Leu at an at an Interest