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Chapter 2 Essay

This document contains 10 questions about foreign exchange rates and interest rate parity. The questions cover factors affecting demand for foreign currency, how interest rate parity must hold for market equilibrium, calculating expected returns on euro deposits under different exchange rate scenarios, and effects of interest rate changes on exchange rates. Additional questions address how a company is affected by currency depreciation, relationships between exchange rates and future expectations, forward premium calculations, liquidity between dollar and won, and how income taxes alter interest rate parity conditions.

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Vân Anh
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37 views

Chapter 2 Essay

This document contains 10 questions about foreign exchange rates and interest rate parity. The questions cover factors affecting demand for foreign currency, how interest rate parity must hold for market equilibrium, calculating expected returns on euro deposits under different exchange rate scenarios, and effects of interest rate changes on exchange rates. Additional questions address how a company is affected by currency depreciation, relationships between exchange rates and future expectations, forward premium calculations, liquidity between dollar and won, and how income taxes alter interest rate parity conditions.

Uploaded by

Vân Anh
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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ưQUESTIONS AND PROBLEMS (CHAPTER 2)

1.What are the factors affecting the demand for foreign currency?

2. Explain why the interest parity condition must hold if the foreign exchange market is in
equilibrium.

3. Suppose the current exchange rate is 1.05 dollar per euro. Calculate the dollar rate of return on
euro deposits in the following cases:
a. The annual euro interest rate is 2% per year, and the exchange rate is expected to increase to
1.155 dollars per euro over the next year.
b. The annual euro interest rate is 4% per year, and the exchange rate is expected to decrease to
1.04 dollars per euro over the next year

4. Discuss the effects of a decrease in the dollar interest rate on the exchange rate between the
dollar and the euro.

5. Discuss the effects of a decrease in the interest rate paid by euro deposits on the exchange rate
between the dollar and the euro.

6. Suppose a company uses production materials imported from abroad. How the company would
be affected by a depreciation of the domestic currency.

7. Suppose the interest rate offered on the euro and dollars deposits are the same at the rate of 3%
a year. What is the relationship between the exchange rate and its expected future level?
Suppose the expected exchange rate between the dollar and euro is 1.5 dollar per euro. What is
the new equilibrium exchange rate if the euro interest rate rises to 5%. Assume that the dollar
interest rate and the expected exchange rate remain constant.

8. Suppose the six-month forward rate between the dollar and the euro is 1.26 and the spot
exchange rate is 1.20 dollars per euro.
a. Calculate the forward premium or discount rate.
b. What is the difference between the annual interest rates offered on dollar and euro deposits.

9. Discuss the liquidity between the dollar and the Korean won. How do you think about the
difference between the interest rates offered on the won and dollar deposits.

10. Discuss how does an income tax alters the interest parity condition in the two following cases:
The interest earning is taxed, but the capital gain is untaxed
Both the interest earning and capital gain are taxed

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