Question 1

Use the following graph to answer questions 23-24.
Figure 6.1: Yield Curves 
-Refer to Figure 6.1.The forward _________ on the U.S.dollar becomes ______ at higher maturities.

Accepted Answer

The forward premium on a currency increases at higher maturities if the interest rate in the domestic country is higher than in the foreign country, leading to a larger premium on the domestic currency as the maturity extends.

Question 2

When investors hedge themselves from risk using forward contracts,the international investment is considered:

Accepted Answer

When investors use forward contracts to protect themselves from the risk associated with international investments, the investment is considered "covered." This means that they have taken steps to mitigate potential losses due to currency fluctuations.

Question 3

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then we would expect the Brazilian real Brazil's currency to:

Accepted Answer

If the expected inflation in Brazil is higher than the expected inflation in the U.S., then the Brazilian real will depreciate relative to the U.S. dollar to account for the higher inflation rate in Brazil. This is because higher inflation erodes the purchasing power of a currency, making it less valuable in the foreign exchange market. Since the real interest rates are equal across countries, this does not affect the exchange rate expectation. Therefore, we would expect the Brazilian real to depreciate.

Question 4

Assume a nominal interest rate on one-year U.S.Treasury Bills of 5.30% and a real rate of interest of 1.50%.Using the Fisher Effect Equation,what is the approximate expected rate of inflation in the U.S.over the next year?

Accepted Answer

According to the Fisher Effect Equation, expected inflation rate = nominal rate - real rate. Here, expected inflation rate = 5.3% - 1.5% = 3.8%. Therefore, the best choice is C) 3.80%.

Question 5

Which of the following reasons explain why interest rate parity may not hold perfectly?
I.Controls on financial capital flows
II.Offshore risk accounting rules
III.Different tax rates for interest and foreign exchange rate earnings
IV.Time zone fluctuations

Accepted Answer

Interest rate parity assumes free movement of capital, so controls on financial capital flows and different tax rates for interest and foreign exchange rate earnings can hinder its perfect hold. Offshore risk accounting rules and time zone fluctuations, on the other hand, do not directly affect interest rate parity.

Question 6

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a ________ on the Swiss franc.

Accepted Answer

According to covered interest rate parity, the forward exchange rate should reflect the interest rate differential between the two currencies. In this case, since the US interest rate is higher than the Swiss interest rate, the Swiss franc should be at a forward premium against the US dollar. The premium should be equal to the difference in interest rates, which is 1%. Therefore, the correct answer is B, 1% forward premium.

Question 7

Suppose that the one-year U.S.interest rate is 13% and the one-year Swiss interest rate is 2%.If the current spot rate is $1.40 per Swiss franc,what must the one-year forward rate $/SFr be according to the approximate covered interest parity?

Accepted Answer

The approximate covered interest parity formula is F = S * (1 + i_d) / (1 + i_f), where F is the forward rate, S is the spot rate, i_d is the domestic interest rate, and i_f is the foreign interest rate. Plugging in the given values: F = 1.40 * (1 + 0.13) / (1 + 0.02) = 1.40 * 1.13 / 1.02 ≈ 1.470.

Question 8

The preferred habit theory of term structure of interest rates suggests that long-term bonds should________ short-term bonds due to investor risk aversion.

Accepted Answer

The answer of The preferred habit theory of term structure...

Question 9

Deviations from interest rate parity could be the result of:

Accepted Answer

Deviations from interest rate parity can arise from various factors such as differences in tax treatment, political risk, and transaction costs associated with foreign exchange transactions. Therefore, all of the above choices are correct.

Question 10

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a forward discount on the Swiss franc.

Accepted Answer

Covered interest rate parity states that the forward exchange rate should reflect the interest rate differential between the two currencies. In this case, the US dollar has a higher interest rate than the Swiss franc, so the forward exchange rate should be at a premium for the Swiss franc, not a discount. Therefore, the statement given in the question is false.

Question 11

Suppose that the one-year U.S.interest rate is 4% and the one-year U.K.interest rate is 6%.If the current spot rate is $1.80 per pound,what must the one-year forward rate $/pound be according to the approximate covered interest parity?

Accepted Answer

According to the covered interest parity, the forward rate should reflect the interest rate differential between the two currencies. In this case, the U.K. interest rate is higher than the U.S. interest rate, so the pound should be expected to depreciate against the dollar in the future. Therefore, the forward rate should be lower than the current spot rate.

Using the approximate covered interest parity formula:
(1 + U.S. interest rate)/(1 + U.K. interest rate) x Spot rate = Forward rate
(1 + 0.04)/(1 + 0.06) x $1.80 = $1.764

Therefore, the one-year forward rate $/pound should be $1.764, which corresponds to answer choice B.

Question 12

Suppose that the one-year U.S.interest rate is 8% and the equivalent one-year U.K.interest rate is 10%.According to the covered interest rate parity,there is a ________ on the U.S dollar.

Accepted Answer

Covered interest rate parity implies that the currency of the country with the lower interest rate (in this case, the U.S.) will trade at a forward premium relative to the currency of the country with the higher interest rate (the U.K.). Since the U.S. interest rate is 2% lower than the U.K. interest rate, the U.S. dollar will trade at a 2% forward premium.

Question 13

Use the following graph to answer questions 23-24.
Figure 6.1: Yield Curves 
-Refer to Figure 6.1.At 3-month maturity,the U.S.dollar sells at a forward ______ and the Korean won sells at a forward _______.

Accepted Answer

In foreign exchange, if a currency is trading at a forward premium, it means that the forward exchange rate is higher than the current spot rate, indicating that the currency is expected to appreciate in value. Conversely, a forward discount means the forward rate is lower than the spot rate, indicating an expectation that the currency will depreciate. The question implies a comparison between the U.S. dollar and the Korean won at a 3-month maturity. Without specific figures, the general principle is that if one currency is at a forward premium, the other is at a discount when compared directly, as forward rates reflect expectations of relative currency movements.

Question 14

Suppose that the one-year Swiss interest rate is 1% and the one-year U.K.interest rate is 11%.If the current spot rate is 0.75 Swiss franc per pound,what must the one-year forward rate SFr/pound be according to the approximate covered interest parity?

Accepted Answer

The answer of Suppose that the one-year Swiss interest rate...

Question 15

The ________ interest rate is equal to the ________ interest rate minus the expected rate of inflation.

Accepted Answer

The real interest rate is the actual return on an investment after adjusting for inflation, while the nominal interest rate is the stated or unadjusted interest rate. Thus, the real interest rate is equal to the nominal interest rate minus the expected rate of inflation.

Question 16

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then:

Accepted Answer

According to the interest rate parity theory, if the expected inflation in Brazil is higher than in the U.S., the Brazilian currency is expected to depreciate against the dollar. This situation leads to a forward premium on the dollar, as investors will demand more Brazilian currency in the future for each dollar, reflecting the anticipated loss in the Brazilian currency's value due to higher inflation.

Question 17

Suppose interest parity holds.There is a change in U.S.policy that leads to expectations of a lower U.S.inflation rate.The decrease in expected inflation will cause dollar interest rates to _______.

Accepted Answer

According to interest parity, the expected return on domestic and foreign assets should be equal. A lower expected inflation rate in the U.S. would lead to a decrease in the expected return on dollar-denominated assets. As a result, investors would demand a lower interest rate on dollar-denominated assets, causing the dollar interest rates to fall.

Question 18

Suppose that the covered interest parity holds.If real interest rates are equal in two countries,then:

Accepted Answer

Covered interest parity (CIP) implies that the interest rate differential between two countries is offset by the forward premium or discount to prevent arbitrage opportunities. If real interest rates are equal, the nominal interest rate differential reflects the expected inflation differential. Thus, all statements are correct in the context of CIP when real interest rates are equal across countries.

Question 19

A currency is at a ________ when its interest rate is ________ than the interest rate in the other country.

Accepted Answer

A currency is at a forward discount when its interest rate is lower than the interest rate in the other country.

Question 20

A forward discount occurs when:

Accepted Answer

A forward discount occurs when the spot rate is greater than the forward rate. This is because in a forward contract, the currency is being bought or sold at a future date, and if the forward rate is lower than the spot rate, it means that the currency is expected to decrease in value. Hence, traders demand a lower forward rate to compensate for the anticipated decline, resulting in a discount.

Quiz 6: Exchange Rates, interest Rates, and Interest Parity

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.The forward ___ on the U.S.dollar becomes at higher maturities.

When investors hedge themselves from risk using forward contracts,the international investment is considered:

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then we would expect the Brazilian real Brazil's currency to:

Assume a nominal interest rate on one-year U.S.Treasury Bills of 5.30% and a real rate of interest of 1.50%.Using the Fisher Effect Equation,what is the approximate expected rate of inflation in the U.S.over the next year?

Which of the following reasons explain why interest rate parity may not hold perfectly? I.Controls on financial capital flows II.Offshore risk accounting rules III.Different tax rates for interest and foreign exchange rate earnings IV.Time zone fluctuations

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a ________ on the Swiss franc.

Suppose that the one-year U.S.interest rate is 13% and the one-year Swiss interest rate is 2%.If the current spot rate is $1.40 per Swiss franc,what must the one-year forward rate $/SFr be according to the approximate covered interest parity?

The preferred habit theory of term structure of interest rates suggests that long-term bonds should________ short-term bonds due to investor risk aversion.

Deviations from interest rate parity could be the result of:

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a forward discount on the Swiss franc.

Suppose that the one-year U.S.interest rate is 4% and the one-year U.K.interest rate is 6%.If the current spot rate is $1.80 per pound,what must the one-year forward rate $/pound be according to the approximate covered interest parity?

Suppose that the one-year U.S.interest rate is 8% and the equivalent one-year U.K.interest rate is 10%.According to the covered interest rate parity,there is a ________ on the U.S dollar.

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.At 3-month maturity,the U.S.dollar sells at a forward and the Korean won sells at a forward _.

Suppose that the one-year Swiss interest rate is 1% and the one-year U.K.interest rate is 11%.If the current spot rate is 0.75 Swiss franc per pound,what must the one-year forward rate SFr/pound be according to the approximate covered interest parity?

The interest rate is equal to the interest rate minus the expected rate of inflation.

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then:

Suppose interest parity holds.There is a change in U.S.policy that leads to expectations of a lower U.S.inflation rate.The decrease in expected inflation will cause dollar interest rates to _______.

Suppose that the covered interest parity holds.If real interest rates are equal in two countries,then:

A currency is at a when its interest rate is than the interest rate in the other country.

A forward discount occurs when:

Quiz 6: Exchange Rates, interest Rates, and Interest Parity

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.The forward _________ on the U.S.dollar becomes ______ at higher maturities.

When investors hedge themselves from risk using forward contracts,the international investment is considered:

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then we would expect the Brazilian real Brazil's currency to:

Assume a nominal interest rate on one-year U.S.Treasury Bills of 5.30% and a real rate of interest of 1.50%.Using the Fisher Effect Equation,what is the approximate expected rate of inflation in the U.S.over the next year?

Which of the following reasons explain why interest rate parity may not hold perfectly? I.Controls on financial capital flows II.Offshore risk accounting rules III.Different tax rates for interest and foreign exchange rate earnings IV.Time zone fluctuations

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a ________ on the Swiss franc.

Suppose that the one-year U.S.interest rate is 13% and the one-year Swiss interest rate is 2%.If the current spot rate is $1.40 per Swiss franc,what must the one-year forward rate $/SFr be according to the approximate covered interest parity?

The preferred habit theory of term structure of interest rates suggests that long-term bonds should________ short-term bonds due to investor risk aversion.

Deviations from interest rate parity could be the result of:

Suppose that the one-year U.S.interest rate is 5% and the equivalent one-year Swiss interest rate is 4%.According to the covered interest rate parity,there is a forward discount on the Swiss franc.

Suppose that the one-year U.S.interest rate is 4% and the one-year U.K.interest rate is 6%.If the current spot rate is $1.80 per pound,what must the one-year forward rate $/pound be according to the approximate covered interest parity?

Suppose that the one-year U.S.interest rate is 8% and the equivalent one-year U.K.interest rate is 10%.According to the covered interest rate parity,there is a ________ on the U.S dollar.

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.At 3-month maturity,the U.S.dollar sells at a forward ______ and the Korean won sells at a forward _______.

Suppose that the one-year Swiss interest rate is 1% and the one-year U.K.interest rate is 11%.If the current spot rate is 0.75 Swiss franc per pound,what must the one-year forward rate SFr/pound be according to the approximate covered interest parity?

The ________ interest rate is equal to the ________ interest rate minus the expected rate of inflation.

If the expected inflation in Brazil in higher than the expected inflation in the U.S.,and the real interest rates are equal across countries,then:

Suppose interest parity holds.There is a change in U.S.policy that leads to expectations of a lower U.S.inflation rate.The decrease in expected inflation will cause dollar interest rates to _______.

Suppose that the covered interest parity holds.If real interest rates are equal in two countries,then:

A currency is at a ________ when its interest rate is ________ than the interest rate in the other country.

A forward discount occurs when:

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.The forward ___ on the U.S.dollar becomes at higher maturities.

Use the following graph to answer questions 23-24. Figure 6.1: Yield Curves -Refer to Figure 6.1.At 3-month maturity,the U.S.dollar sells at a forward and the Korean won sells at a forward _.

The interest rate is equal to the interest rate minus the expected rate of inflation.

A currency is at a when its interest rate is than the interest rate in the other country.