Today in the spot market $1 = 1.82 Swiss francs and $1 = 130 Japanese yen. In the 90-day forward market, $1 = 1.84 Swiss francs and $1 = 127 Japanese yen. Assume that interest rate parity holds worldwide. Which of the following statements is most CORRECT?
A) Interest rates on 90-day risk-free U.S. securities are higher than the interest rates on 90-day risk-free Swiss securities.
B) Interest rates on 90-day risk-free U.S. securities are higher than the interest rates on 90-day risk-free Japanese securities.
C) Interest rates on 90-day risk-free U.S. securities equal the interest rates on 90-day risk-free Japanese securities.
D) Since interest rate parity holds interest rates should be the same in all three countries.
E) Interest rates on 90-day risk-free U.S. securities equal the interest rates on 90-day risk-free Swiss securities.
Multiple Choice: Problems
Problems with * in the topic line are nonalgorithmic.

Question

Quizplus · Accepted Answer

According to interest rate parity, the forward exchange rate should equal the spot exchange rate adjusted for the difference in interest rates between the two currencies. Therefore, the fact that the 90-day forward rate is higher for the Swiss franc than the spot rate implies that the Swiss franc is expected to appreciate. Similarly, the fact that the 90-day forward rate is lower for the Japanese yen than the spot rate implies that the Japanese yen is expected to depreciate. This suggests that interest rates on 90-day risk-free U.S. securities are higher than the interest rates on 90-day risk-free Japanese securities.

Today in the Spot Market $1 = 1