FIN565 – Week – 4 – Midterm – 2016 – Graded – Essay Type ONLY

(TCO A) Answer the following questions regarding inflation and international trade.

(a) How would a relatively high inflation rate affect the home country’s current account? (10 points)

(b) Is a negative current account harmful to a country? Discuss. (10 points)

 

(TCO D) Answer the following questions regarding speculating with currency futures.

Assume that a March futures contract on the Mexican peso was available in January for $0.09 per unit. Also assume that forward contracts were available for the same settlement date at a price of $0.092 per peso.

a. How could speculators capitalize on this situation, assuming zero transaction costs? (10 points)

b. How would such speculative activity affect the difference between the forward contract price and the futures price? Explain. (10 points)

(TCO C) Answer the following questions regarding indirect intervention.

a. Why would the Fed’s indirect intervention have a stronger impact on some currencies than others? (10 points)

b. Why would the Fed’s indirect intervention have a stronger impact than its direct intervention? (10 points)

(TCO B) Answer the following questions regarding covered interest arbitrage in both directions.

Assume that the existing U.S. 1-year interest rate is 10% and the Canadian 1-year interest rate is 11%. Also assume that interest rate parity exists.

 

a. Should the forward rate of the Canadian dollar exhibit a discount or a premium? (10 points)

b. If a U.S. investor attempts CIA, what will be his or her return? If a Canadian investor attempts CIA, what will be his or her return? (10 points)