The figure given below depicts the foreign exchange market for British pounds traded for U.S. dollars.Figure 22.2

-Assume that a one-year Malaysian bond yields 10 percent interest and that the dollar return on maturity is 5 percent. If the exchange rate at maturity is $1 = MYR 4.00 (Malaysian ringgit), what was the exchange rate at the time the bond was purchased?
A)$1 = MYR 4.2
B)$1 = MYR 3.8
C)$1 = MYR 3.6
D)MYR 1 = $0.26
E)MYR 1 = $0.4

Question

The figure given below depicts the foreign exchange market for British pounds traded for U.S. dollars.Figure 22.2
 
-Assume that a one-year Malaysian bond yields 10 percent interest and that the dollar return on maturity is 5 percent. If the exchange rate at maturity is $1 = MYR 4.00 (Malaysian ringgit), what was the exchange rate at the time the bond was purchased?
A)$1 = MYR 4.2 
B)$1 = MYR 3.8 
C)$1 = MYR 3.6 
D)MYR 1 = $0.26 
E)MYR 1 = $0.4

Quizplus · Accepted Answer

To solve this problem, we can use the Interest Rate Parity theory, which states that the difference in interest rates between two countries should be reflected in the exchange rate between their currencies.

In this case, we have:

- Malaysia's interest rate: 10%
- US interest rate: 5%
- Expected exchange rate in one year: $1 = MYR 4.00

Using the formula for the Interest Rate Parity theory, we can solve for the current exchange rate:

(1 + US interest rate) / (1 + Malaysia interest rate) = Expected exchange rate / Current exchange rate

(1 + 0.05) / (1 + 0.10) = 4.00 / Current exchange rate

Current exchange rate = 3.80

Therefore, the exchange rate at the time the bond was purchased was $1 = MYR 3.80. The answer is B.

The Figure Given Below Depicts the Foreign Exchange Market for British