BAFI3200 Week 4 - International Arbitrage

Under purchasing power parity, the future spot exchange rate is a function of the initial spot rate in equilibrium and:

• the income differential.

• the forward discount or premium.

• the inflation differential.

• none of the above

The international Fisher effect (IFE) suggests that the foreign currency will appreciate when:

• the current home nominal interest rate exceeds the current foreign nominal interest rate.

• the current home real interest rate exceeds the current foreign real interest rate.

• the current home inflation rate exceeds the current foreign nominal interest rate.

• the current foreign inflation rate exceeds the current home inflation rate.

Assume U.S. and Swiss investors require a real rate of return of 3 percent. Assume the nominal U.S. interest rate is 6 percent and the nominal Swiss rate is 4 percent. According to the international Fisher effect, the franc will ____ by about ____.

• appreciate; 3 percent

• depreciate; 3 percent

• depreciate; 2 percent

• appreciate; 2 percent

Interest Rate Parity indicates

• the relationship between interest rates and exchange rates in different countries.
• the correlation between stock prices and interest rates.
• the impact of inflation on currency value.
• the effect of government policies on domestic savings.

Which of the following best describes the relationship between inflation rates and currency depreciation in Latin American economies?

• Higher inflation leads to currency appreciation.

• Higher inflation leads to currency depreciation.

• Inflation rates have no impact on currency value.

• Currency depreciation is independent of inflation rates.

According to the theory of purchasing power parity, if a country experiences higher inflation than another, its currency is expected to:

• Appreciate against the other currency.

• Depreciate against the other currency.

• Remain stable against the other currency.

• None of the above.

The concept of interest rate parity is crucial for understanding how:

• Exchange rates are determined in the long run.

• Inflation affects interest rates.

• Government policies influence currency values.

• Stock market performance correlates with interest rates.

The difference between covered and uncovered interest rate parity is

• CIRP uses forward contracts to eliminate exchange rate risk, while UIRP does not.
• CIRP is only applicable to domestic investments, while UIRP applies to international investments.
• CIRP assumes interest rates are equal across countries, whereas UIRP assumes they are different.
• CIRP focuses on short-term investments, while UIRP focuses on long-term investments.

In the context of interest rate parity, what is the primary reason for the existence of forward exchange contracts?

• To speculate on future currency movements.

• To hedge against exchange rate risk.

• To ensure equal interest rates across countries.

• To facilitate international trade without currency conversion.

According to the purchasing power parity theory, if two countries have the same inflation rate, what is expected to happen to their exchange rate?

• It will appreciate.

• It will depreciate.

• It will remain stable.

• It will fluctuate unpredictably.