Assume the spot rate on the Canadian dollar is C$1.0926, the risk-free nominal rate in the U.S. is 3.8 percent and 4.1 percent in Canada. Which one of the following four-year forward rates best establishes the approximate interest rate parity condition?

Question

Quizplus · Accepted Answer

The correct answer is A because it is the closest to the forward rate that would be implied by interest rate parity. The forward rate implied by interest rate parity is:F = S * (1 + r_f) / (1 + r_d)where:S is the spot rater_f is the risk-free nominal rate in the foreign countryr_d is the risk-free nominal rate in the domestic countryIn this case, the spot rate is C$1.0926, the risk-free nominal rate in the U.S. is 3.8 percent, and the risk-free nominal rate in Canada is 4.1 percent. Plugging these values into the formula, we get:F = 1.0926 * (1 + 0.041) / (1 + 0.038) = 1.1058Therefore, the forward rate that best establishes the approximate interest rate parity condition is C$1.1058.

Assume the Spot Rate on the Canadian Dollar Is C$1