ECMB05 – Macroeconomic Theory and Policy amazonaws com

MGEC61 – International Economics: Finance Review Questions – Chapters 13 & 14 Chapter 13 – National Income Accounting and the Balance of Payments Question 1: Problems #6. Question 2: Problems #8. Chapter 14 – Exchange Rates and the Foreign Exchange Market: An Asset Approach Question 1: Problems #6. Question 2: Problems #7. Question 3: Problems #14 Question 4: Suppose you are a currency trader working for a large financial institution. Furthermore, you observed the corporate bond yields in the E.U. and Britain are 6% and 4% respectively. a) If the current (spot) €/£ exchange rate is 1.5, and the forward €/£ exchange rate is 1.455. Is € is trading at a forward discount or forward premium against £ and by much (measured in %)? Is there any arbitrage opportunity? If yes, what kinds of transactions would you carry? Explain. b) Given you are working for a large financial institution, your firm has the ability to “move” the market (i.e. it can affect/change the spot exchange rate, the forward exchange rate, and the bond yields in both countries when your firm carries transactions in the spot and forward exchange markets and the bond markets), what happens to these variables after your transactions? Explain. (8 points) c) Will (covered) interest rate parity hold after your transactions? Why? (4 points) Note: •

You need to use covered interest rate parity in the question.

•

Quote the exchange rates as E€/£ and F€/£.

Use the names of the currencies

mentioned in the question, not DC and FC, in your answer. 1

•

2

Keep your answer in 4 decimal points if necessary.