If the exchange rate at time t is Eₜ = €1/$. You invest $1 in an euro asset at t,which has an interest of 8%. If Eₜ+1 = €1.02/$,then your rate of return in terms of $ is ________%,and your rate of return in terms of € is ________%.

Question

Quizplus · Accepted Answer

To calculate the rate of return in terms of $, we need to calculate the future value of our euro investment at t+1 and convert it back to dollars using the exchange rate at t+1.

Future value of €1 investment at t+1 = €1 x (1+8%) = €1.08

Converting €1.08 to $ using Eₜ+1 = €1.02/$: $1.08/€1.02 = $1.0588

Rate of return in terms of $ = ($1.0588/$1 - 1) x 100% = 5.88% or approx. 6%

To calculate the rate of return in terms of €, we need to calculate the future value of our euro investment at t+1 and divide it by our initial investment in euros at t.

Future value of €1 investment at t+1 = €1 x (1+8%) = €1.08

Rate of return in terms of € = (€1.08/€1 - 1) x 100% = 8%

If the Exchange Rate at Time T Is Eₜ =