Problem 17-3 Interest rate parity Six-month T-bills have a nominal rate of 5%, w
ID: 2636596 • Letter: P
Question
Problem 17-3
Interest rate parity
Six-month T-bills have a nominal rate of 5%, while default-free Japanese bonds that mature in 6 months have a nominal rate of 2%. In the spot exchange market, 1 yen equals $0.0115. If interest rate parity holds, what is the 6-month forward exchange rate? Round your answer to five decimal places.
Problem 17-3
Interest rate parity
Six-month T-bills have a nominal rate of 5%, while default-free Japanese bonds that mature in 6 months have a nominal rate of 2%. In the spot exchange market, 1 yen equals $0.0115. If interest rate parity holds, what is the 6-month forward exchange rate? Round your answer to five decimal places.
Explanation / Answer
Forward Exchange rate = Spot Rate x (1+ Interest Rate of Foreign Country)
(1 + Interest Rate of Domestic Country)
Spot Rate = 1 / 0.0115 = 86.95652 or 1$ = 86.95652 Yen
Forward Exchange Rate = 86.95652 x (1+ 0.02) / (1 + 0.05)
Forward Exchange Rate = 1$ = 84.47204 Yen
or 1 Yen = $ 0.01183