Please answer questions. Thanks Exercise 2 (LO 2) Spot rates and forward rates.
ID: 2593340 • Letter: P
Question
Please answer questions. Thanks
Exercise 2 (LO 2) Spot rates and forward rates. On exchanged for eight foreign currencies (FC). The dollar can be invested short term at a rate of January 1, one U.S. dollar can be 496, and the FC can be invested at a rate of 5%. 1. Calculate the direct and indirect spot exchange rates as of January 1. 2. Calculate the 180-day forward rate to buy FC (assume 365 days per year). 3. If the spot rate is 1 FC = $0.740 and the 90-day forward rate is $0.752, what does this sug- gest about interest rates in the two countries? 4. Explain why a weak dollar relative to the FC would likely increase U.S. exports. 5. Discuss what would happen to the forward rate if the dollar strengthened relative to the FC.Explanation / Answer
Part:1 Spot Rates Direct Method 1 US Dollar=8 Foreign Currencies (Dollar Cost of 1 FC) Hence Spot Rate of 1 FC= 1/8=0.125 USD Indirect Method 1 US Dollar=8 Foreign Currencies (FC cost of 1 USD) Hence Spot rate of 1 USD=8 FC Part:2 180 Days forward Rate US Dollar FC Spot Value 100 USD 800 FC Interest Rate 4% 5% Interest for 365 Days 4 40 Interest for 180 Days (Interest/365*180) 1.97260 19.7260274 Forward Value after 180 Days (Spot Value+180 Days interest) 101.9726 USD 819.72603 FC Hence 180 days forward Rate 101.9726 USD/819.72603 FC 0.1244 Part:3 Suggest about interest rates The Interest Rate Parity Theorem implies that the currency with the higher interest rate will always be at a forward premium to the currency having the lower interest rate. In other words, the forward exchange rate will be greater (less) than the spot rate whenever the U.S. interest rate is greater (less) than the foreign interest rate. Hence, in given scenario, since forward exchange rate is higher than spot rate, US interest rate will be higher than FC rates of interest Part:4 Weak Dollor vs Exports a.When value of Dollars decreases relative to FC, imported goods become less affordable to people in US b.Weak dollor will help foreign buyers to buy more dollor in less FC and hence increase in purchasing power c.With the increased purchasing power, more US goods in demand and hence incease in exports