Citibank gives you the following information:
Spot exchange rate (AUD/EUR) = 1.42
One-month forward exchange rate (AUD/EUR) = 1.45
One-month domestic interest rate (in Australia) = 6.5% p.a.
One-month foreign interest rate (in Germany) = 4.5% p.a.
(a) Is there any violation of the CIP? Why or why not?
(b) Is the AUD selling at a premium or discount against the EUR?By how much?
(c) Suggest a value for the forward rate which is consistentwith CIP.
(d) Based on the given information, due to expect the EUR toappreciate or depreciate against the AUD over the next month?Why?
2. ANZ bank is quoting the following exchange rates against theNew Zealand dollar (NZD) for the Danish Krone (DKK) and the SouthAfrican Rand (ZAR):
DKK/NZD = 4.23 - 42
ZAR/NZD = 9.60 - 95
A South African firm asks the ANZ bank for a ZAR/DKK quote. Whatrates (bid and ask) would the bank quote? Explain how you arrive atyour answer.
3. Suppose that the Reserve Bank of India suddenly increases thedomestic money supply. This policy change is expected to bepermanent by the market. Assume the Indian rupee (INR) to be thehome currency and the USD to be the foreign currency.
(a) Explain with the help of the money market and FOREX marketdiagrams, what happens to the interest rate and exchange rate inthe short-run? In your graphs, clearly label the axes, curves andequilibrium points.
(b) Explain what happens to the interest rate and exchange ratein the long-run. In your graphs, clearly label the axes, curves andequilibrium points.
(c) Explain how the economy transitions from the short-runequilibrium to the long-run equilibrium.
4. As of November 1, 2017, the nominal exchange rate between theBrazilian real and the U.S. dollar is BRL1.95/USD. The consensusforecast for the U.S. and Brazil inflation rates for the next1-year period is 2.6% and 20.0%, respectively. Assume UIP andrelative PPP holds.
(a) What would you forecast the nominal exchange rate to be ataround November 1, 2018?
(b) If the U.S. interest rate on bonds with one-year to maturityis 4%, what would you expect the interest rate for a Brazilian bondwith one-year to maturity to be?
