foreign exchange markets, end of chapter solutions

8/11/2019 Foreign Exchange Markets, End of Chapter Solutions.

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CHAPTER 7: THE FOREIGN EXCHANGE MARKET

SUGGESTED SOLUTIONS TO CHAPTER 7 PROBLEMS

1. The $: exchange rate ! 1 " $#. %& an' the ()Fr exchange rate ! )Fr 1 " #.71. *hat ! the )Fr($ exchangerate+

ANSWER . )Fr1 " #.71 x #. % " $#.,7-%.

. )/00 !e the ' rect 2/ te 3 r !ter4 ng n Ne5 6 r ! 1.111#8%. *hat ! the ' rect 2/ te 3 r ' 44ar! n 9 n' n+

ANSWER . The ' rect 2/ te 3 r the ' 44ar n 9 n' n ! /!t the rec 0r ca4 3 the ' rect 2/ te 3 r the 0 /n' n Ne56 r r 1(1.111% 8 1(1.111# " #.; 78#. ##1.

/? e/r ! !0 t Bat $#. #;# an' !e44 e/r ! 3 r5ar' 3 r 1;# 'a?! Bat $#. 1-, .

a. *hat ! the !5a0 rate n e/r !+

ANSWER . A 0re / 3 ,, 0 nt!.

>. *hat ! the 0re / n 1;#8'a? e/r !+

ANSWER . The 1;#8'a? 0re / ! B#. 1-, 8 #. #;# (#. #;# x " 1.-% .

%. )/00 !e Cre' t )/ !!e 2/ te! !0 t an' #8'a? 3 r5ar' rate! 3 $#.7 %78,#& ;81 ' rate " $#.7 ,% B#.7 %7 #.###; an' a! rate " $#.7 7< B#.7 ,# #.##1< .

>. *hat ! the 3 r5ar' ' !c /nt r 0re / a!! c ate' 5 th >/? ng #8'a? )5 !! 3ranc!+

ANSWER . The ann/a4 e' 3 r5ar' 0re / " B#.7 7< 8 #.7 ,# (#.7 ,#Dx - " #.,% .

c. C 0/te the 0ercentage > '8a! !0rea'! n !0 t an' 3 r5ar' )5 !! 3ranc!.

1


2/27


ANSWER . The > '8a! !0rea' ! ca4c/4ate' a! 3 44 5!:

)/>!t t/t ng n the n/ >er! ? e4'! a !0 t > '8a! !0rea' 3 B#.7 ,# 8 #.7 %7 (#.7 ,# " #.#- . The c rre!0 n' ng3 r5ar' > '8a! !0rea' ! B#.7 7< 8 #.7 ,% (#.7 7< " #.1# .

,. )/00 !e 5 Che ca4 rece @e! 2/ te! 3 $#.## ' rate an' then /!e the!e' 44ar! t >/? ?en at the a! rate. The net re!/4t 3r the!e tran!act n! ! J7;-& '8a! !0rea'! n the 0 /n' an' e/r .

ANSWER . The 0ercentage > '8a! !0rea'! n the 0 /n' an' e/r are ca4c/4ate' a! 3 44 5!:

> '8a! !0rea' " B1., % 8 1., -- (1., % " #.#

e/r > '8a! !0rea' " B#.7#;# 8 #.7#,- (#.7#;# " #. /? A/!tra4 an ' 44ar!. G @en the 2/ te! a> @e& t c !t! J1#1.;% t >/? =.).$1& 5h ch can >e ! 4' 3 r A$1. -. Hence& A$1. - " J1#1.;%& r A$1 " J7;.;1. Th ! ! the ?en a! 0r ce 3 r the A/!tra4 an ' 44ar.

A! a 3 re gn exchange tra'er& ? / 5 /4' tr? t >/? A/!tra4 an ' 44ar! at !4 ght4? 4e!! than J7;.etter 2/ te!.

>. *hat /tr ght ?en cr !! rate! 5 /4' ? / 2/ te n e 3 /n' a! 3 44 5!. F r the ?en > ' 0r ce 3 r the 3 r5ar' A/!tra4 an ' 44ar& 5e nee' t 3 r!t !e44A/!tra4 an ' 44ar! 3 r5ar' 3 r =.). ' 44ar! an' then !e44 the =.). ' 44ar! 3 r5ar' 3 r ?en. It c !t! A$1. 7# t >/?

=.).$1 3 r5ar'. * th =.).$1 5e can >/? J1#1. . Hence& A$1. 7# " J1#1. & r A$1 " J7;.#-. Th ! ! the ?en > ' 0r ce 3 r the 3 r5ar' A/!tra4 an ' 44ar.

The ?en a! 0r ce 3 r the A/!tra4 an ' 44ar can >e 3 /n' >? 3 r!t !e44 ng ?en 3 r5ar' 3 r =.). ' 44ar! an' then /! ngthe =.). ' 44ar! t >/? 3 r5ar' A/!tra4 an ' 44ar!. G @en the 2/ te! a> @e& t c !t! J1#1.7 t >/? =.).$1& 5h chcan >e ! 4' 3 r A$1. --. Hence& A$1. -- " J1#1.71& r A$1 " J7;.%;. Th ! ! the ?en a! 0r ce 3 r the 3 r5ar'A/!tra4 an ' 44ar.

c. *hat ! the 3 r5ar' 0re / r ' !c /nt n >/? ng


4/27


ANSWER . A! !h 5n n 0art! a an' >& the a! rate 3 r ' an' a! 2/ te! n Par ! 5 44 0er t ar> trage+

3.4-=30

360 x

78.8178.81-78.58

=

daysof n !"er

contract #or$ard 360

xratepot

rate pot rate #or$ard =

disco nt or

pre!i ! #or$ard

-


5/27

ANSWER . Tr ang/4ar ar> trage can ta e 04ace n e ther 3 t5 5a?!: B1 C n@ert 3r e/r ! t ' 44ar! Bat the a! rate & then 3r ' 44ar! t 0 /n'! Bat the > ' rate & r B c n@ert 3r 0 /n'! t ' 44ar! Bat the a! rate & then 3r' 44ar! t e/r ! Bat the > ' rate . The 3 r!t 2/ te 5 44 g @e /! the > ' 0r ce 3 r the e/r n ter ! 3 the 0 /n' an' the!ec n' 2/ te 5 44 ? e4' the a! 0r ce. =! ng the g @en rate!& A r France 5 /4' en' /0 5 th the 3 44 5 ng a /nt!:

B1 E/r ! t 0 /n'! " ($ Ba! x $( B> '" #. < x 1(#., '#.,- x 1(#.

" #., %7( r 1.-/? e/r ! n Par ! 3 r 4e!! than #.,77-( B5h ch ! the e2/ @a4ent 3 !e44 ng 0 /n'! 3 r re than #.,77-( & t can earn an ar> trage 0r 3 t. ) 4ar4?& the3 g/re! n eth ' B te44 /! that A r France can >/? e/r ! n Ne5 6 r at a c !t 3 #., %7( . G @en th ! exchangerate& A r France can earn an ar> trage 0r 3 t 3 t can !e44 the!e e/r ! 3 r re than #., %7(FF n Par !. Th/!& A r France can 0r 3 ta>4? ar> trage >et5een Ne5 6 r an' Par ! 3 the > ' rate 3 r the e/r n Par ! ! greater than

#., %7( r the a! rate ! 4e!! than #.,77-( .

1#. On chec ng the Te4erate !creen& ? / !ee the 3 44 5 ng exchange rate an' ntere!t rate 2/ te!:

Currency 90-d y !n"ere#" r "e# nnu $!%ed S&'" r "e# 90-d y ('r) rd r "e#

44ar -. 8 %.#. *hat !te0! /!t ? / ta e t ca0 ta4 e n t+

ANSWER . rr 5 ' 44ar! at 1. %7% 3 r # 'a?! B%.#< (- & c n@ert the!e ' 44ar! nt 3ranc! at the a! rate 3 $#.7 & 4en' the 3ranc! at #.7;% 3 r # 'a?! B/? rate 3 $#.7 ,.

c. *hat ! the 0r 3 t 0er $1#### ar> trage'+

ANSWER . The 0r 3 t ! $1#### x B1.##7;%(#.7 x #.7 , 8 1.#1 %7%D " $;%;.,,.

SUGGESTED SOLUTIONS TO CHAPTER * PROBLEMS


6/27

1. On M n'a? rn ng& an n@e!t r ta e! a 4 ng 0 ! t n n a 0 /n' 3/t/re! c ntract that at/re! n *e'ne!'a?a3tern n. The agree'8/0 n 0r ce ! $1.7; 3 r , &%##. At the c4 !e 3 tra' ng n M n'a?& the 3/t/re! 0r ce ha!r !en t $1.7 . At T/e!'a? c4 !e& the 0r ce r !e! 3/rther t $1.;#. At *e'ne!'a? c4 !e& the 0r ce 3a44! t $1.7;%&an' the c ntract at/re!. The n@e!t r ta e! 'e4 @er? 3 the 0 /n'! at the 0re@a 4 ng 0r ce 3 $1.7;%. eta 4 the

'a 4? !ett4e ent 0r ce!! B!ee Exh > t ;.< . *hat 5 44 >e the n@e!t r ! 0r 3 t B4 !! +

ANSWER

T!+e Ac"!'n C #, $')8888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888888

M n'a? In@e!t r >/?! 0 /n' 3/t/re! N nern ng c ntract that at/re! n t5

'a?!. Pr ce ! $1.7;.

M n'a? F/t/re! 0r ce r !e! t $1.7 . In@e!t r rece @e!c4 !e C ntract ! ar e'8t 8 ar et. , &%## x B1.7 8 1.7; " $, %.

T/e!'a? F/t/re! 0r ce r !e! t $1.;#. In@e!t r rece @e!c4 !e C ntract ! ar e'8t 8 ar et. , &%## x B1.;# 8 1.7 " $, %.

*e'ne!'a? F/t/re! 0r ce 3a44! t $1.7;%. B1 In@e!t r 0a?!c4 !e B1 C ntract ! ar e'8t 8 ar et. , &%## x B1.;# 81.7;% " $ trage'.

/?! a )5 !! 3ranc 3/t/re! c ntract Bc ntract ! e ! )Fr 1 %## at a 0r ce 3 $#.;e 'e4 @ere' n March - an' are 0a?a>4e e' ate4? n ' 44ar!. * 'ec 'e! t he'ge t! ' 44ar 0 ! t n >?enter ng nt IMM 3/t/re! c ntract!. The !0 t rate ! $#.; -7( an' the March 3/t/re! 0r ce ! $#. ## (.

a. Ca4c/4ate the n/ >er 3 3/t/re! c ntract! that * /!t >/? t 33!et t! ' 44ar exchange r ! n the 0art!c ntract.

ANSWER . 4 !5agen can 4 c n a e/r 0r ce 3 r t! 0 rte' 0art! >? >/? ng ' 44ar! n the 3/t/re! ar et at thec/rrent March 3/t/re! 0r ce 3 1.11# ($1 B1(#. ## . Th ! ! e2/ @a4ent t !e44 ng e/r 3/t/re! c ntract!. At that3/t/re! 0r ce& * 5 44 !e44 7&77,%# 3 r $7 44 n. At 1 %## 0er 3/t/re! c ntract& th ! 5 /4' enta 4 !e44 ng ,c ntract! B7&77,%#(1 %## " , . 1 at a t ta4 c !t 3 7&7%###.


7/27

>. On March -& the !0 t rate t/rn! /t t >e $#.; % (& 5h 4e the March 3/t/re! 0r ce ! $#.; ,;(. Ca4c/4ate* ! net e/r ga n r 4 !! n t! 3/t/re! 0 ! t n. C 0are th ! 3 g/re 5 th * ! ga n r 4 !! n t! /nhe'ge'

0 ! t n.

ANSWER . =n'er t! 3/t/re! c ntract& 4 !5agen ha! agree' t !e44 7&7%### an' rece @e $,& 7,&%%# B7&7%###

x #. ## . On March -& * can c4 !e /t t! 3/t/re! 0 ! t n >? >/? ng >ac , March e/r 3/t/re! c ntract!B5 rth 7&7%### . At the c/rrent 3/t/re! rate 3 $#.; ,;(& * /!t 0a? /t $,& %#& ## B7&7%### x #.; ,; .Hence& * ha! a net ga n 3 $ ,& 4 t?& the ' 33erence >et5een the c !t 3 $7 44 n 5 th he'g ng B7&7 #-,. an' the c !t 5 th /t he'g ng B7&;1 &-;1.,; .

%. C t gr /0 !e44! a ca44 0t n n e/r ! Bc ntract ! e ! %#### at a 0re / 3 $#.#- 0er e/r . I3 the exerc !e 0r ce ! $#. 1 an' the !0 t 0r ce 3 the e/r at 'ate 3 ex0 rat n ! $#. th entr? an' ex t 5ere $% 0er c ntract an' that ? /r 00 rt/n t? c !t 5a!; 0er ann/ n the ne? t e' /0 n the 0re / +

ANSWER . The net 0r 3 t 5 /4' >e 1.%S( Be3 re ex0en!e! 3 $ &;1 .%# B#.#1% x1;7&%## . r erage 3ee! t ta4e' $1# 0er c ntract r $/t the ?en c /4' g a! h gh a! $#.##;-## r a! 4 5 a! $#.##7%##.

a. agra A0ex ! ga n! an' 4 !!e! n the ca44 0t n 0 ! t n an' the 3/t/re! 0 ! t n 5 th n t! range 3 ex0ecte' 0r ce! B!ee Exh > t ;.- . Ign re tran!act n c !t! an' arg n!.

ANSWER . In a44 the 3 44 5 ng ca4c/4at n!& n te that the c/rrent !0 t rate ! rre4e@ant. *hen a !0 t rate ! re3erre't & t ! the !0 t rate n # 'a?!. I3 A0ex >/?! the ca44 0t n!& t /!t 0a? a ca44 0re / 3 #.###1% x 1 %####" $1;&7%#. I3 the ?en !ett4e! at t! n / @a4/e& A0ex 5 44 n t exerc !e the 0t n an' t 4 !e! the ca44 0re / .


8/27

/t 3 the ?en !ett4e! at t! ax / @a4/e 3 $#.##;-##& A0ex 5 44 exerc !e at $#.##;### an' earn $#.###-(J1 3 r a t ta4 ga n 3 .###- x 1 %#### " $%###. A0ex ! net ga n 5 44 >e $%### 8 $1;&7%# " $


9/27

OPTIONIn34 5O/t34 5

Ca44 0re /Exerc !e c !t

Pr 3 t

F=T=RE)In34 5O/t34 5

Pr 3 t

7%

88

8$1;&7%#88

8$1;&7%#

$


10/27

A! the ' agra !h 5!& A0ex can /!e a 3/t/re! c ntract t 4 c n a 0r ce 3 $#.##7 -#(J at a t ta4 c !t 3 .##7 -# x1 %#### " $ &%##. I3 the ?en !ett4e! at t! n / @a4/e& A0ex 5 44 4 !e $#.##7 -# 8 $#.##7%## "$#.###--#(J Bre e >er t ! >/? ng ?en at #.##7 -#& 5hen the !0 t 0r ce ! n4? #.##7%## & 3 r a t ta4 4 !! n the3/t/re! c ntract 3 #.###-- x 1 %#### " $%%##. On the ther han'& 3 the ?en a00rec ate! t $#.##;-##& A0ex5 44 earn $#.##;-## 8 $#.##7 -# " $#.###-,#(J 3 r a t ta4 ga n n the 3/t/re! c ntract! 3 #.###-,# x 1 %####

" $%7&%##.

>. Ca4c/4ate 5hat A0ex 5 /4' ga n r 4 !e n the 0t n an' 3/t/re! 0 ! t n! 3 the ?en !ett4e' at t! !t 4 e4?@a4/e.

ANSWER . I3 the ?en !ett4e! at t! !t 4 e4? 0r ce 3 $#.##7 ##& A0ex 5 44 n t exerc !e t! ca44 0t n an' 5 44 4 !ethe ca44 0re / 3 $1;&7%#. I3 A0ex he'ge! 5 th 3/t/re!& t 5 44 ha@e t >/? ?en at a 0r ce 3 $#.##7 -# 5hen the!0 t rate ! $#.##7 . Th ! 5 44 c !t A0ex $#.####-#(J& 3 r a t ta4 3/t/re! c ntract c !t 3 #.####-# x 1 %#### "$%##.

c. *hat ! A0ex ! >rea 8e@en 3/t/re !0 t 0r ce n the 0t n c ntract+ On the 3/t/re! c ntract+

ANSWER . On the 0t n c ntract& the !0 t rate 5 44 ha@e t r !e t the exerc !e 0r ce 04/! the ca44 0re / 3 r A0ext >rea e@en n the c ntract& r $#.##;### $#.###1%# " $#.##;1%#. In the ca!e 3 the 3/t/re! c ntract& >rea 8e@en cc/r! 5hen the !0 t rate e2/a4! the 3/t/re! rate& r $#.##7 -#.

'. Ca4c/4ate an' ' agra the c rre!0 n' ng 0r 3 t an' 4 !! an' >rea 8e@en 0 ! t n! n the 3/t/re! an' 0t n!c ntract! 3 r the !e44er! 3 the!e c ntract!.

ANSWER . The !e44er! 0r 3 t an' 4 !! an' >rea 8e@en 0 ! t n! n the 3/t/re! an' 0t n! c ntract! 5 44 >e therr r age 3 A0ex ! 0 ! t n n the!e c ntract!. F r exa 04e& the !e44er! 3 the 3/t/re! c ntract 5 44 >rea e@en

at a 3/t/re !0 t 0r ce 3 J1 " $#.##7 -#& 5h 4e the 0t n! !e44er! 5 44 >rea e@en at a 3/t/re !0 t rate 3 J1 "$#.##;1%#. ) 4ar4?& 3 the ?en !ett4e! at t! n / @a4/e& the 0t n! !e44er! 5 44 earn the ca44 0re / 3 $1;&7%# an' the 3/t/re! !e44er! 5 44 earn $%%##. /t 3 the ?en !ett4e! at t! ax / @a4/e 3 $#.##;-##& the

0t n! !e44er! 5 44 4 !e $


11/27

1. )/00 !e that at the !tart an' at the en' 3 the ?ear& e44 =.K.& the r t !h !/>! ' ar? 3 e44 =.).& ha! c/rrenta!!et! 3 1 44 n& 3 xe' a!!et! 3 44 n& an' c/rrent 4 a> 4 t e! 3 1 44 n. e44 ha! n 4 ng8ter4 a> 4 t e!.

a. *hat ! e44 =.K. ! tran!4at n ex0 !/re /n'er the c/rrent(n nc/rrent& netar?(n n netar?& te 0 ra4& an'c/rrent rate eth '!+

ANSWER . U n'er the c/rrent(n nc/rrent eth '& e44 =.K.U! tran!4at n ex0 !/re ! 1 44 n 8 1 44 n& r #.*e cann t 'eter ne e44 =.K.U! tran!4at n ex0 !/re /n'er the netar?(n n netar? eth ' >eca/!e 5e ' n t

n 5 the netar?(n n netar? >rea ' 5n 3 t! a!!et! an' 4 a> 4 t e!. ) 4ar4?& 5e cann t 'eter ne e44 =.K.U!te 0 ra4 ex0 !/re >eca/!e 5e ' n t n 5 the >rea ' 5n 3 t! c/rrent a!!et! >et5een n@ent r? an' netar?a!!et!. =n'er the c/rrent rate eth '& e44 =.K.U! ex0 !/re ! < 44 n 8 1 44 n " 44 n.

>. A!!/ ng the 0 /n' ! the 3/nct na4 c/rrenc?& 3 the 0 /n' 'e0rec ate' '/r ng that ?ear 3r $1.%# t $1.e nc4/'e' n the e2/ t? acc /nt 3 e44 ! =.). 0arent+

ANSWER . =n'er FA) 8% & e44 =.K. ha! net 0 /n' ex0 !/re e2/a4 t < 44 n 8 1 44 n " 44 n. At ther g na4 exchange rate 3 $1.%#& the @a4/e 3 th ! net ex0 !/re ! $< 44 n. ? the en' 3 the ?ear& th ! net 0 /n'

ex0 !/re ! 5 rth n4? 44 n x $1.


12/27

Acc /nt! rece @a>4eIn@ent r?F xe' a!!et!

Mex$ 1##%###< ##

111##

Mex$ 1 -##

C/rrent 4 a> 4 t e!9 ng8ter 'e>tE2/ t?

Mex$ -7##1 ##

14e!& n@ent r?& c/rrent 4 a> 4 t e!& an' 4 ng8ter 'e>t a! ex0 !e'& an' e2/ t? an' net 3 xe' a!!et!a! /nex0 !e'. It a4! a!!/ e! that a44 the!e a!!et! an' 4 a> 4 t e! are n 0e! !.

I3 n34at n ha! c 4e' 33& an' the 0e! ! the 3/nct na4 c/rrenc?& then tran!4at n ex0 !/re e2/a4! Va0ata ! net5 rth 3 Mex$ 1e3 re that a44 a!!et! an' 4 a> 4 t e! are 'en nate' n 0e! ! & r $1,.;7%

44 n. The ' 33erence >et5een the t5 tran!4at n ex0 !/re 3 g/re! 3 Mex$ 111## " $1/t n t /n'er the te 0 ra4 eth '.

>. )/00 !e the exchange rate n ece >er e Va0ata ! tran!4at n 4 !! 3 r the?ear+

ANSWER . The 0e! ha! 4 !t ne8th r' 3 t! ' 44ar @a4/e '/r ng the ?ear. Hence& Va0ata ! tran!4at n 4 !! e2/a4!ne8th r' 3 t! n t a4 ex0 !/re. I3 the ' 44ar ! the 3/nct na4 c/rrenc?& an' a!!/ ng n change n a!!et! an'

4 a> 4 t e!& Va0ata ! tran!4at n 4 !! 3 r the ?ear 5 44 >e $ rr 5 an a'' t na4 Mex$ 1%##. *hat 5 44 th ! ' t t! tran!4at n ex0 !/re 3 t /!e! the 3/n'!t 0a? a ' @ 'en' t t! 0arent+ I3 t /!e! the 3/n'! t ncrea!e t! ca!h 0 ! t n+

ANSWER . I3 Va0ata > rr 5! an a'' t na4 Mex$ 1%## B n 44 n! an' /!e! the!e 3/n'! t 0a? a ' @ 'en' t t! 0arent& t! 4 a> 4 t e! 5 44 r !e >? Mex$ 1%## an' t! e2/ t? 5 44 3a44 >? the !a e a /nt. * th the a''e' 0e!4 a> 4 t e!& t! ex0 !/re 5 44 3a44 >? Mex$ 1%## r $1.;7% 44 n regar'4e!! 3 the 3/nct na4 c/rrenc?. I3 the' 44ar ! the 3/nct na4 c/rrenc?& Va0ata ! ne5 tran!4at n ex0 !/re >ec e! $1.1 % 44 nW 3 the 0e! ! the3/nct na4 c/rrenc?& the ne5 tran!4at n ex0 !/re >ec e! $1% 44 n. I3 Va0ata /!e! the Mex$ 1%## t ncrea!e

t! ca!h 0 ! t n& then t! tran!4at n ex0 !/re !ta?! the !a eW the a''e' 0e! 4 a> 4 t e! are exact4? 33!et >? thea''e' 0e! a!!et!.

-. *a4t !ne? ex0ect! t rece @e a Mex$1, 44 n theatr ca4 3ee 3r Mex c n # 'a?!. The c/rrent !0 t rate! $#.1< 1(Mex$ an' the #8'a? 3 r5ar' rate ! $#.1 - (Mex$.

a. *hat ! !ne? ! 0e! tran!act n ex0 !/re a!! c ate' 5 th th ! 3ee+

ANSWER . !ne? ! 0e! tran!act n ex0 !/re n th ! 3ee e2/a4! Mex$1, 44 n r $ &11. I3 the !0 t rate ex0ecte' n # 'a?! ! $#.1


13/27

ANSWER . The he'ge' @a4/e 3 th ! 3ee n # 'a?! ! $1& ;7& ## B1,### x #.1 - .

'. *hat 3act r! 5 44 n34/ence the he'g ng 'ec ! n+

ANSWER .

%. A 3 re gn exchange tra'er a!!e!!e! the e/r exchange rate three nth! hence a! 3 44 5!:

$1.11 5 th 0r >a> 4 t? #. %$1.1< 5 th 0r >a> 4 t? #.%#$1.1% 5 th 0r >a> 4 t? #. %

The #8'a? 3 r5ar' rate ! $1.1 .

a. * 44 the tra'er >/? r !e44 e/r ! 3 r5ar' aga n!t the ' 44ar 3 !he ! c ncerne' ! 4e4? 5 th ex0ecte' @a4/e!+ In5hat @ 4/ e+

ANSWER . The ex0ecte' 3/t/re !0 t exchange rate ! $#. < B$#. 1 x #. % $#. < x #.%# $#. % x#. % . eca/!eth ! excee'! the 3 r5ar' rate 3 $#. & the tra'er 5 44 >/? e/r ! 3 r5ar' aga n!t the ' 44ar. )he !h /4' >/? an

n3 n te a /nt 3 e/r !. Th ! a>!/r' re!/4t ! '/e t the a!!/ 0t n 3 a 4 near /t 4 t? 3/nct n.

>. In rea4 t?& 5hat ! 4 e4? t 4 t the tra'er ! !0ec/4at @e act @ t e!+

ANSWER . Regar'4e!! 3 her /t 4 t? 3/nct n& !he 5 44 >e re!tra ne' >? >an 0 4 c e! 'e! gne' t g/ar' aga n!texce!! @e c/rrenc? !0ec/4at n.

c. )/00 !e the tra'er re@ !e! her 0r >a> 4 t? a!!e!! ent a! 3 44 5!:$1.# 5 th 0r >a> 4 t? #.a> 4 t? #.a> 4 t? #.e3 re. I3 the tra'er ! c ncerne' ! 4e4? 5 th ex0ecte' @a4/e!& th ! 5 44 n t a33ect her !0ec/4at @eact @ t e!. /t 3 !he ! c ncerne' 5 th r ! n a'' t n t ex0ecte' ret/rn& the greater @ar ance an' c n!e2/entgreater r ! !h /4' 4ea' her t re'/ce her !0ec/4at @e act @ t e!.

,. An n@e!t ent anager he'ge! a 0 rt3 4 3 /n'! BGer an g @ern ent > n'! 5 th a ,8 nth 3 r5ar'c ntract. The c/rrent !0 t rate ! 1.,-:$1 an' the 1;#8'a? 3 r5ar' rate ! 1.,1:$1. At the en' 3 the ,8 nth

0er '& the /n'! ha@e r !en n @a4/e >? e ng& 3 r each $1## n@e!te' n /n'! at a !0 t rate 3 1.,- 0er ' 44ar&the n@e!t ent anager 5 /4' ha@e at the en' 3 ! x nth! an a /nt 3 e/r ! e2/a4 t 17-. %& a! 3 44 5!

1.,- x 1## x B1 #.# % #.#


14/27

1,- c n@erte' nt ' 44ar! at the !0 t rate 3 1.-,:$1. The t ta4 ' 44ar a /nt rece @e' n ! x nth! 5 /4'&there3 re& >e $1#;., B1#-.-1 -. 1 & 5h ch ! an ;., ret/rn n the r g na4 $1## n@e!t ent.

>. *hat 5 /4' the ret/rn n the /n'! ha@e >een 5 th /t he'g ng+

ANSWER . A! !h 5n n the an!5er t 0art a& the e/r @a4/e 3 the /n' ! 0r nc 0a4 04/! ntere!t at the en' 3 ! xnth! 5 /4' >e 17-. %. C n@ert ng th ! a /nt nt ' 44ar! at the !0 t rate 3 1.-,:$1 ? e4'! an a /nt e2/a4t $11 .? an a /nt e2/a4 t the ' 33erence >et5een the 3 r5ar' rate an' the act/a4 !0 t rate atthe t e 3 !ett4e ent& r

7. Magnetr n c!& Inc.& a =.). c 0an?& 5e! t! Ta 5ane!e !/004 er NT$ #% 44 n n three nth!. Thec 0an? 5 !he! t he'ge t! NT$ 0a?a>4e. The c/rrent !0 t rate ! NT$1 " =.).$#.#< ;7& an' the three8 nth3 r5ar' rate ! NT$1 " =.).$#.#-#%1. Magnetr n c! can a4! > rr 5(4en' =.). ' 44ar! at an ann/a4 e'

ntere!t rate 3 1 0ercent an' Ta 5ane!e ' 44ar! at an ann/a4 e' ntere!t rate 3 ; 0ercent.

a. *hat ! the =.). ' 44ar acc /nt ng entr? 3 r th ! 0a?a>4e+

ANSWER . Magnetr n c! 5 44 rec r' a 0a?a>4e 3 =.).$;&174e+ e!cr >e the 0r ce'/re t5 /4' /!e t get th ! 0r ce.

ANSWER . Magnetr n c! can /!e e ther a 3 r5ar' ar et he'ge r a ne? ar et he'ge. The 3 r5ar' ar ethe'ge 5 44 4 c n a c !t 3 =.).$;& rr 5 =.).' 44ar!& c n@ert the nt NT$& an' n@e!t the NT$ 3 r three nth! an' /!e the 0r cee'! t !ett4e the NT$

0a?a>4e. T e!t ate the c !t 3 th ! ne? ar et he'ge& 5e /!t 5 r >ac 5ar'! t 3 g/re /t 3 r!t h 5 an? NT$ are nee'e' t 'a?. At a 2/arter4? ntere!t rate 3 & Magnetr n c! /!t n@e!t NT$ ##& ;#&e $1.%%%#. )h /4' t he'ge+ *h? r 5h? n t+

ANSWER . I3 C 0er ' e! n t he'ge& t 5 44 ex0ect t c 44ect at at/r t? $7 %& ,, B%11&;7% x 1.%%%# . Th ! a /ntexcee'! the he'ge' ret/rn. *hether t !h /4' he'ge 'e0en'! n h 5 !tr ng4? t >e4 e@e! that t! ex0ectat n 3 the#8'a? !0 t rate ! c rrect an' the 3 r5ar' ar et ! 5r ng& an' n t! r ! 0re3erence!. It a4! 'e0en'! n 5hether t ha! an 33!ett ng ex0 !/re& a! the 2/e!t n n 0art c n' cate!.

'. )/00 !e that C 0er ha! a 0a?a>4e 3 ;### c ng '/e n 1;# 'a?!. )h /4' th ! a33ect t! 'ec ! n 3 5hether t he'ge t! !ter4 ng n te+ H 5 an' 5h?+

ANSWER . 6e!. I3 C 0er he'ge! t! n@e!t ent& t 5 44 act/a44? exacer>ate t! 0 /n' ex0 !/re. A! t !tan'!& the 0 /n' n@e!t ent c/rrent4? 0r @ 'e! an 33!et 3 %11&;7% t t! negat @e ex0 !/re 3 ;###& ? e4' ng a netex0 !/re 3 8 -,;&1 % B %11&;7% 8 ;### . I3 C 0er he'ge! the 0 /n' n@e!t ent& t! net ex0 !/re r !e! t 8

;###.

. A er can A r4 ne! ! tr? ng t 'ec 'e h 5 t g a> /t he'g ng 7# 44 n n t c et !a4e! rece @a>4e n 1;#'a?!. )/00 !e t 3ace! the 3 44 5 ng exchange an' ntere!t rate!.

)0 t rate: $#.,-e > rr 5e' an' the !ec n' ne the rate at 5h ch t can >e 4ent.

ANSWER . A er can can a4! he'ge t e/r rece @a>4e >? > rr 5 ng the 0re!ent @a4/e 3 7# 44 n at a 1;#8'a?ntere!t rate 3 .##% B-.#1 ( & !e44 the 0r cee'! n the !0 t ar et at a rate 3 $#.,-4e!& ! t ! 0re3era>4e.

'. I! there an ar> trage 00 rt/n t? here+

ANSWER . 6e!. ? > rr 5 ng ' 44ar! at a !e ann/a4 rate 3 -.##% B;.#1 ( & c n@ert ng the t e/r ! at the a!

rate 3 $#.,-- & an' ! /4tane /!4? n@e!t ng the e/r ! at a !e ann/a4 rate 3 1. ;% B trage !0rea' 3 #.1e !een a! 3 44 5!. F 44 5 ng the !te0! /t4 ne' a> @e& the ret/rn n the > rr 5e' ' 44ar! 5 44 >e -.1


16/27

)/>tract ng 33 the -.##% c !t 3 > rr 5 ng the ' 44ar! ? e4'! a !e ann/a4 c @ere' ntere!t ' 33erent a4 3 #.14e n the a /nt 3 r %# 44 n that t 5 /4' 4 e t he'ge. =n3 rt/nate4?& there are n'rach a 3/t/re! c ntract! a@a 4a>4e an' Ma' ! n ! ha@ ng ' 33 c/4t? arrang ng a 'rach a 3 r5ar' c ntract. It!trea!/rer& 5h recent4? rece @e' her M A& !/gge!t! /! ng Ita4 an 4 ra t cr !!8he'ge the 'rach a ex0 !/re.)he recent4? ran the 3 44 5 ng regre!! n 3 the change n the exchange rate 3 r the 'rach a aga n!t thechange n the 4 ra exchange rate:

Y r($ " 1.,BY9 t($

1.04138=0.6578 x1.01&85 x0.644'

1


17/27

a. There ! an act @e ar et n 3 r5ar' 4 ra. T cr !!8he'ge Ma' ! n ! 'rach a ex0 !/re& !h /4' the trea!/rer >/? r !e44 4 ra 3 r5ar'+

ANSWER . G @en that Ma' ! n ! !h rt 'rach a an' there ! a 0 ! t @e c rre4at n >et5een the 4 ra an' the 'rach a&Ma' ! n !h /4' create a 4 ng 0 ! t n n 4 raW that !& Ma' ! n !h /4' >/? 4 ra 3 r5ar'.

>. *hat ! the r ! 8 n ng a /nt 3 4 ra that the trea!/rer 5 /4' ha@e t >/? r !e44 3 r5ar' t he'geMa' ! n ! 'rach a ex0 !/re+

ANSWER . Acc r' ng t the regre!! n& a 1S change n the @a4/e 3 the 4 ra 4ea'! t a 1.,S change n the @a4/e 3 the'rach a. T cr !!8he'ge the 3 rthc ng 0a? ent 3 r& 9 t 1., /!t >e > /ght 3 r5ar' 3 r e@er? /n t 3 r

5e'. * th a 'rach a ex0 !/re 3 r %# 44 n& the ex0 rter /!t >/? 3 r5ar' 9 t n the a /nt 3 9 t -##44 n B1., x %##### .


18/27

SUGGESTED SOLUTIONS TO CHAPTER // PROBLEMS

1. H 4t n Internat na4 ! c n! 'er ng n@e!t ng n a ne5 )5 !! h te4. The re2/ re' n t a4 n@e!t ent ! $1.%44 n B r )Fr .


19/27

De8 $u "!'n 0: /0: /2:

Re@en/ear a>4e C !te0rec at n

$1#.#,.#1.#

$1#.##%.7##. #

$1#.##%.%%#.;%

Taxa>4e nc eTax Z -#


20/27


21/27

exchange rate !?!te n an n34at nar? en@ r n ent& the rea4 exchange rate ! !/> ect t 'ra at c change!. The!e change! nt/rn 5 44 g @e r !e t 'ra at c change! n the >/! ne!! en@ r n ent& a ng 0a!t 3 nanc a4 !tate ent! rre4e@ant 3 reca!t ng 3/t/re ca!h 34 5!.

A4th /gh the n/ >er! ha@e >een change'& th ! 0r >4e ! >a!e' n an act/a4 ! t/at n. In the 4ate 1 7#!& ! e a r

A er can >an ! 4ent a great 'ea4 3 ne? t ne 3 the 4arge!t Ch 4ean >re5er!. Th ! >re5er 3ace' e!!ent a44? nc 0et t n an' ! 5a! h gh4? 0r 3 ta>4e n > th 0e! an' ' 44ar ter ! 0r r t 'e@a4/at n 3 the 0e! . A4th /gh t! cre' t4 e' 0ecca>4e& the >re5er ! 4 an! are n 5 n 'e3a/4t. The >an er! 3 rg t t a!!e!! the c n' t n! that 4e' t the >re5er !h gh 0r 3 t! an' the 4 e4 h ' that the!e c n' t n! 5 /4' 0er! !t.

*hen g @ern ent nter@ent n ca/!e! n na4 exchange rate change! t 4ag n34at n& the rea4 @a4/e 3 the c/rrenc? 5 44r !e. The re ra0 ' the n34at n an' the greater the 4ag& the greater the rea4 exchange rate change. The ncrea! ng rea4 @a4/e

3 the 4 ca4 c/rrenc? n t/rn 5 44 ca/!e 0re!!/re! t >/ 4' /0 that /!t /4t ate4? >e re4ea!e' thr /gh an 9C 'e@a4/at n.Th/!& n a!!e!! ng cre' t r ! 3 r 3 re gn > rr 5er! 0erat ng n a c ntr 44e' rate !?!te & t ! nece!!ar? t a!!e!! the r cre' t5 rth ne!! > th >e3 re an' a3ter the ne@ ta>4e 'e@a4/at n.

-. In 1 #& Genera4 E4ectr c ac2/ re' T/ng!ra 9t'.& a H/ngar an 4 ght >/4> an/3act/rer. H/ngar? ! n34at n rate 5a! ; 0ercent n 1 # an'


22/27

>. ' A9 ! 3 r5ar' c ntract! c n!t t/te an ec n c he'ge+ That !& ! t 4 e4? that A9 ! 4 !!e! n t! 3 r5ar'c ntract! 5ere 33!et >? c/rrenc? ga n! n t! 0erat n!+

ANSWER . The an!5er t th ! 2/e!t n 'e0en'! n 5hether A9 ! ?en 0erat ng 0r 3 t! are negat @e4? c rre4ate'5 th the ?en ! @a4/e. I3 a !tr nger ?en ean! 4 5er ?en 0erat ng 0r 3 t!& then the!e 3 r5ar' c ntract! 5 /4'

c n!t t/te an ec n c he'ge. ) e 3act r! t c n! 'er n 'ec ' ng 5hether th ! ! 4 e4? t >e the ca!e are a!3 44 5!. F r!t& a g ' 0art 3 A9 ! c !t! are 3 r a0ane!e 34 ght cre5!& 5h !e 0a? ! 'en nate' an' 'eter ne'n ?en. T the extent that 3are! are 'eter ne' n ' 44ar! B n 0art >eca/!e A9 ! c 0et ng 5 th =.). a r4 ne!& A9 !

?en 0r 3 t! 5 44 @ar? n@er!e4? 5 th the ?en ! @a4/e . At the !a e t e& a !tr nger ?en 5 44 n'/ce re a0ane!e ttra@e4 t the =.). >/t 3e5er A er can! t @ ! t a0an& ncrea! ng /t> /n' @ 4/ e >/t re'/c ng n> /n' @ 4/ e.*here the >a4ance 4 e! ! an e 0 r ca4 2/e!t n. It t/rn! /t that A9 ha! >een h/rt >? ?en a00rec at n an' ! n 54 ng t c/t c !t!& 0r ar 4? >? re'/c ng t! a0ane!e 5 r 3 rce thr /gh > >/? /t! an' h r ng 3 re gner!. It ha!a4! 3 c/!e' re n !er@ ng 4e !/re tra@e4er! ! nce the ?en ! !trength ha! 4e' /n0rece'ente' n/ >er! 3 a0ane!et /r !t! t tra@e4 a>r a'.

,. N !!an 0r '/ce! a car that !e44! n a0an 3 r J1.; 44 n. On )e0te >er 1& the >eg nn ng 3 the 'e4 ?ear&the exchange rate ! J1%#:$1. C n!e2/ent4?& N !!an !et! the =.). !t c er 0r ce at $1 ##. ? Oct >er 1& theexchange rate ha! 'r 00e' t J1 %:$1. N !!an ! /0!et >eca/!e t n 5 rece @e! n4? $1 ## x 1 % " J1.%

44 n 0er !a4e.

a. *hat !cenar ! are c n! !tent 5 th the =.). ' 44ar ! 'e0rec at n+

ANSWER . An? 'e4 3 exchange rate 'eter nat n a? >e a004 e' here. In a netar? 'e4 th ! 5 /4' nc4/'ea re4at @e ncrea!e n the =.). ne? !/004? B r @e4 c t? & a re4at @e 'ecrea!e n =.). nc e& r the ex0ectat n 3 the!e e@ent! n 3/t/re 0er '!. In an 0en8ec n ? Ke?ne! an 'e4& ?en a00rec at n c /4' ar !e 3r an ncrea!e

n =.). 0 rt! 3r a0an B'/e t an increase n =.). nc e . I3 PPP h 4'!& then re4at @e 0r ce! 4e@e4! !h /4' a4!ha@e change' >? 1# . A4ternat @e4?& the exchange rate change c /4' >e '/e t g @ern ent nter@ent n t 0/!h' 5n the ' 44ar ! @a4/e& r t c /4' >e '/e t the ce!!at n 3 g @ern ent nter@ent n that 5a! 0re@ /!4?

a nta n ng an @er@a4/e' ' 44ar.

>. *hat a4ternat @e! are 0en t N !!an t 0r @e t! ! t/at n+

ANSWER . The a4ternat @e! 0en t N !!an are:

B1 Ra !e 0r ce! n the =.). ar et.B n th ng 3 r the !h rt r/n. Inc/r ! e 4 !!e! an' h 0e that the exchange rate 5 44 ret/rn t J ##. In

a'' t n& h 4' =.). !a4e! rece 0t! n ' 44ar! an' ' n t re0atr ate 3/n'! /nt 4 the exchange rate ! re3a@ ra>4e. The !ec n' 0art 3 th ! !trateg? ! 0r >a>4? /!e4e!! ! nce t re2/ re! that an? exchange rate!change! n t >e 33!et >? the ' 33er ng ntere!t rate! >et5een a0an an' the =n te' )tate!.

B< In@e!t n the =.). an' >/ 4' the car! there. BIn 1 ? ! 04 3? ng the r 0r '/ct 4 ne a! 5e44 a! >? re'/c ng the @ar et? 3 0art! /!e' n the r 0r '/ct!.

F r exa 04e& N !!an 33er! -e r 44e' >ac e ng /!e' >? a0ane!e a/t a er! ! ha@e 'e! gner! 5 r c4 !e4? 5 th !/004 er!&

ar et ng& an' an/3act/r ng 0e 04e88th/! a@ ' ng ex0en! @e !ta e! 4ater n an' re'/c ng 0r '/ct'e@e4 0 ent t e! an' c !t!. a0ane!e c 0an e! are a4! & 3 r the 3 r!t t e& c4 ! ng 3act r e! an' c/tt ng

>!.B% Rec gn e that ? /r c 0arat @e a'@antage ! 0er anent4? 4 !t an' ex t the =.). ar et.B, )5 tch 0r '/ct n t h gher 2/a4 t?& 4e!! 0r ce8e4a!t c an' re nc e8e4a!t c car!.


23/27

c. H 5 !h /4' N !!an re!0 n' n th ! ! t/at n+

ANSWER . The a00r 0r ate re!0 n!e >? N !!an 'e0en'! n t! nter0retat n 3 the nat/re 3 the ec n c' !t/r>ance that ca/!e' the exchange rate change. I3 t >e4 e@e! that the !h c ! te 0 rar?& N !!an /!t ca4c/4ateh 5 4 ng t 5 44 ta e 3 r the exchange rate t ret/rn t t! r g na4 4e@e4. I3 the !h c ! n na4 BPPP h 4'! & then

the rea4 ter ! 3 tra'e >et5een a0an an' the =.). are /na33ecte'. In th ! ca!e& =.). 0r ce! n genera4 !h /4' ha@e >een r ! ng an' N !!an can 0a!! a4 ng a44 3 the exchange rate change t h ! =.). c/!t er!. BTh ! ! an 0 rtant 0 nt: I! PPP a 4ea' ng r a 4agg ng re4at n!h 0+ H 5 2/ c 4? can exchange rate change! >e nc r0 rate' nt' e!t c 0r ce!+ In the 0re!ent c rc/ !tance& t ! @ rt/a44? certa n that the 1# 'r 0 n the @a4/e 3 the ' 44ar !n t /!t a an 3e!tat n 3 0/rcha! ng 0 5er 0ar t?W that !& the ' 44ar 'e0rec at n ! n t '/e t a 1# / 0 n the=.). 0r ce 4e@e4 re4at @e t the a0ane!e 0r ce 4e@e4 n the !0ace 3 ne nth Ba ? the =.). r a0ane!e centra4 >an !&the change ! 4 e4? t >e te 0 rar? >eca/!e t ! a @e ent a5a? 3r e2/ 4 >r / . A4ternat @e4?& a rea4exchange rate change that ! '/e t ar et 3 rce! r t the cessation 3 nter@ent n >? the a0ane!e r =.). centra4

>an ! can >e a!!/ e' 0er anent. Per!anent n th ! c ntext ean! that the >e!t 0re' ct r 3 t rr 5 ! rea4exchange rate ! t 'a? ! rate. It ' e!n t ean that the rea4 rate t rr 5 5 44 >e the !a e a! the rea4 rate t 'a?Wrather& the rea4 rate 3 44 5! a ran' 5a4 .

I3 the rea4 exchange rate ncrea!e ! ex0ecte' t >e te 0 rar?& t a? n t 0a? N !!an t ra !e ' 44ar 0r ce! an' 4 !ear et !hare n the =n te' )tate!. The rea! n ! that 5hen the rea4 exchange rate rea' /!t!& ena>4 ng N !!an t >e

0r ce c 0et t @e aga n& t 5 44 >e ex0en! @e t >/? >ac ar et !hare. /t 3 the rea4 exchange rate ncrea!e !ex0ecte' t >e 0er anent& then N !!an !h /4' c n! 'er ra ! ng t! 0r ce! Bthe extent 'e0en'! n the 0r ce e4a!t c t?

3 'e an' an' a ng re >a! c change! n 0r '/ct n an' ar et ng !trateg?. M !t a0ane!e 3 r ! ha@e3 44 5e' a !trateg? 3 c/tt ng c !t! at h e an' ee0 ng ' 44ar 0r ce! c n!tant a! 4 ng a! 0 !! >4e ! a! t hang

nt =.). ar et !hare.

'. )/00 !e that n N @e >er 1& the =.). Fe'era4 Re!er@e nter@ene! t re!c/e the ' 44ar& an' the exchange ratea' /!t! t J #:$1 >? the 3 44 5 ng /4?. *hat 0r >4e ! an'( r 00 rt/n t e! ' e! th ! ! t/at n 0re!ent 3 r

N !!an an' 3 r Genera4 M t r!+

ANSWER . Here& the ta>4e! are re@er!e' 3r 0art c. N !!an ! en ? ng an ncrea!e 3 1# n t! ?en rece 0t! 3r=.). a/t !a4e!. *hether t! en ? ent ! rea4 'e0en'! aga n n the nat/re 3 the ec n c ' !t/r>ance a!! c ate'5 th the exchange rate change. I3 a0ane!e 0r '/ct n c !t! are r ! ng >eca/!e 3 n34at n Ba!! c ate' 5 th the ?en'e@a4/at n N !!an nee' n t >e >etter 33 n rea4 ter !. It! 00 rt/n t e! !t 44 'e0en' n the rea4(n na4 an'

0er anent( te 0 rar? nat/re 3 the !h c .

It ! ntere!t ng t th n a> /t the 0 !! > 4 t e! here 3 r ' e!t c 5age an' 0r ce c ntr 4!& 3 re gn exchangec ntr 4!& r 3 re gn exchange ar et nter@ent n that ght >e a!! c ate' 5 th the!e !har0 exchange rate change!.E@en 3 N !!an can 'eter ne an 0t a4 re!0 n!e t the exchange rate change& t! re!0 n!e a? >e 3 rec4 !e' >?g @ern ent reg/4at n!. In th ! ca!e& N !!an /!t c n! 'er !ec n' >e!t !trateg e!.

7. Che ex& a =.). a er 3 !0ec a4t? che ca4!& ex0 rt! -# 0ercent 3 t! $,## 44 n n ann/a4 !a4e!: % 0ercentg e! t Cana'a an' 7 0ercent each t a0an& r ta n& Ger an?& France& an' Ita4?. It nc/r! a44 t! c !t! n =.).' 44ar!& 5h 4e !t 3 t! ex0 rt !a4e! are 0r ce' n the 4 ca4 c/rrenc?.

a. H 5 ! Che ex a33ecte' >? exchange rate change!+

ANSWER . A! an ex0 rter& Che ex ! he40e' >? ' 44ar 'e0rec at n an' h/rt >? ' 44ar a00rec at n. I3 the ' 44ar a00rec ate!& the 3 r ! c !t! 5 44 a00rec ate n ter ! 3 the 3 re gn c/rrenc e! n 5h ch t !e44!. I3 t ra !e! t! 3 re gnc/rrenc? 0r ce!& t r ! ! 4 ! ng !a4e!& an' 5 th the 0r 3 t!88an' 5 r!e& 0er anent ar et !tan' ng. I3 t ' e! n t


24/27

ra !e 0r ce! n the 3 re gn c/rrenc e!& t! ' 44ar 0r 3 t arg n! !hr n & an' 5 th the t! 0r 3 t!. 6et& Che ex a?n t >e a33ecte' a! /ch >? c/rrenc? change! a! a c ' t? che ca4 a er 5 /4' >e ! nce t! 0r '/ct! are' 33erent ate' B t a e! !0ec a4t? che ca4! . T the extent that t! a r c 0et t r! are ther A er canc 0an e!& 5h !hare a c n c !t !tr/ct/re& t! exchange r ! 5 44 >e 4 5er !t 44.

>. !t ng/ !h >et5een Che ex ! tran!act n ex0 !/re an' t! 0erat ng ex0 !/re.

ANSWER . Che ex ! tran!act n ex0 !/re !te ! 3r the 3act that !t 3 t! ex0 rt !a4e! are 0r ce' n the 4 ca4c/rrenc? 3 the c /ntr e! t 5h ch t ex0 rt!. It! 0erat ng ex0 !/re ar !e! >eca/!e the ' 44ar8e2/ @a4ent 0r ce! that

t can charge n 3 re gn ar et! an' t! 3 re gn !a4e! @ 4/ e at a g @en ' 44ar 0r ce are a33ecte' >? c/rrenc?change!. In ther 5 r'!& c/rrenc? change! 5 44 a33ect the 0r 3 t! that Che ex can earn a>r a'. T the extent thatChe ex 3ace! c 0et t n n the =.). 3r 3 re gn 3 r !& t! ' e!t c 0r 3 t! 5 44 a4! 'e0en' n exchange rate!.

c. H 5 can Che ex 0r tect t!e43 aga n!t tran!act n ex0 !/re+

ANSWER . Che ex can he'ge t! tran!act n ex0 !/re >? !e44 ng t! 3 re gn c/rrenc? rece 0t! 3 r5ar' 3 r ' 44ar!.

'. *hat 3 nanc a4& ar et ng& an' 0r '/ct n techn 2/e! can Che ex /!e t 0r tect t!e43 aga n!t 0erat ngex0 !/re+

ANSWER . Che ex can 3 nance t! a!!et! 5 th 3 re gn c/rrenc?8'en nate' 'e>t n 0r 0 rt n t t! !a4e! n eachc /ntr?. In Che ex ! ca!e& th ! 5 /4' n@ 4@e ra ! ng -# 3 t! 3 nanc ng n 3 re gn c/rrenc e!& n the 3 44 5 ng

0r 0 rt n!: % n Cana' an ' 44ar! an' 7 each n a0ane!e ?en& r t !h 0 /n'!& M& French 3ranc!& an' Ita4 an4 ra. A4th /gh n4? a r /gh g/ 'e& th ! a00r ach 5 /4' he40 a4 gn t! c !t !tr/ct/re 5 th t! ar et !tr/ct/re.

On the ar et ng ! 'e& Che ex ! 0 ! t n n the !0ec a4t? che ca4 >/! ne!! a4rea'? 0r @ 'e! a he'ge aga n!tc/rrenc? r ! ! nce t re'/ce! the 0r ce e4a!t c t? 3 'e an'. Che ex !h /4' c nt n/e t 3/n' re!earch an''e@e4 0 ent t en!/re a c nt n/ ng !trea 3 0r '/ct! 5 th 4 5er 0r ce e4a!t c t? 3 'e an' an' 5 r n >r ng ngthe!e ne5 0r '/ct! t ar et 2/ c 4?. In a'' t n& Che ex !h /4' tr? t a'' re @a4/e t t! 0r '/ct! >?

0r @ ' ng re !er@ ce t c/!t er!. Th ! techn 2/e a4! 4 5er! the 0r ce e4a!t c t? 3 'e an'& 5h ch ! the >a! car et ng !trateg? 3 r c 0 ng 5 th c/rrenc? r ! . Che ex /!t a4! 'ec 'e 5hether t 0r ce 3 r ar et !hare r

0r 3 t arg n. Th ! 'ec ! n& 5h ch 'e0en'! n > th the 0r ce e4a!t c t? 3 'e an' an' the arg na4 c !t 3 0r '/ct n& 5 44 'eter ne >? h 5 /ch t a' /!t! t! ' 44ar 0r ce 5hen exchange rate! change.

On the 0r '/ct n ! 'e& Che ex c /4' tr? 3 r a 0 4 c? 3 g4 >a4 ! /rc ng t !h 3t !/004 er! n 4 ne 5 th chang ngre4at @e 0r '/ct n c !t! n ' 33erent c /ntr e!. Th ! !trateg?& h 5e@er& ! /n4 e4? t 0a? > g ' @ 'en'! >eca/!e thera5 ater a4! that Che ex /!e! are c ' t? che ca4! 5h !e 0r ce! are 0rett? ! 4ar 5 r4'5 'e. Che ex

ght a4! c n! 'er !ett ng 0r '/ct n 3ac 4 t e! n t! a r ar et!. /t th ! !trateg? a? n t 0er t Che ex tta e 3/44 a'@antage 3 0r '/ct n ec n e! 3 !ca4e. Che ex can a4! e >ar n a 0r gra 3 n!t t/t na4 e'c !t c/tt ng. The 4atter ! /!t g ' >/! ne!! 0ract ce an' 5 44 >e >ene3 c a4 regar'4e!! 3 c/rrenc? @e ent!.

e. Can Che ex e4 nate t! 0erat ng ex0 !/re >? he'g ng t! 0 ! t n e@er? t e t a e! a 3 re gn !a4e r >? 0r c ng a44 3 re gn !a4e! n ' 44ar!+ *h? r 5h? n t+

ANSWER . E ther a00r ach 5 44 a44 5 Che ex t e4 nate t! tran!act n ex0 !/re. /t ne ther 5 44 0r tect

Che ex ! arg n! n 3/t/re !a4e!. Th ! can n4? >e ' ne >? he'g ng the 0re!ent @a4/e 3 3/t/re !a4e!& 5h ch !5hat 3 nanc ng a!!et! 5 th 3 re gn c/rrenc? 'e>t n 0r 0 rt n t 3 re gn !a4e! e33ect @e4? ' e!.

;. /r ng 1 ee3& chee!e& 0 tat e!& an' 5heat 3 r >/rger >/n!LMc na4' ! a0ane!e a33 4 ate

re'/ce' the 0r ce n certa n !et en/!. F r exa 04e& a chee!e>/rger& ! 'a& an' ! a44 r'er 3 3rench 3r e! 5erear e' ' 5n t J-1# 3r J%? J


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a. H 5 /ch 3 a @ 4/ e ncrea!e ! nece!!ar? t /!t 3? the 0r ce c/t 3r %/t n t @erhea' 3 r th ! ea4 5a! J #. *hat ! the 04 e' 0r ce e4a!t c t? 3 'e an'a!! c ate' 5 th th ! nece!!ar? r !e n 'e an'+

ANSWER . The net e33ect 3 the 0r ce c/t an' the 4 5er ?en c !t 3 ngre' ent! ! a 'ec4 ne n 0r 3 t 0er ea4 3 J #

B J1 # 8 J? , B#.% x 1., " 1 . Fr a ' 44ar !tan'0 nt& h 5e@er& the ne5 0r 3 t arg nha! 3a44en n4? e !een a! 3 44 5!. The ne5 0r 3 t arg n 3 J1e #.,, x 1.,# " 1.#,& r a , r !e n ' 44ar 0r 3 t.

c. *hat ther rea! n! ght Mc na4' ! ha@e ha' 3 r c/tt ng 0r ce >e! 'e! ra ! ng t! 0r 3 t!+

ANSWER . Mc na4' ! a? >e tr? ng t ra !e t! ar et !hare n the ex0ectat n that th ! 5 44 ena>4e t t 4ater ca0 ta4 e n th ! ex0an! n an' !e44 a'' t na4 ea4! n the 3/t/re. In a'' t n& Mc na4' ! a? >e a>4e t !e44h gher8 0r ce' ea4! t the a'' t na4 0e 04e B3a 4? e >er! an' 3r en'! that c e a4 ng 5 th the c/!t er!

>/? ng the ' !c /nte' ea4!. In ther 5 r'!& the ' !c /nte' ea4! a? !er@e a! 4 !! 4ea'er!.

. In 1 #& a a0ane!e n@e!t r 0a ' $1## 44 n 3 r an 33 ce >/ 4' ng n ' 5nt 5n 9 ! Ange4e!. At the t e& theexchange rate 5a! J1-%($1. *hen the n@e!t r 5ent t !e44 the >/ 4' ng 3 @e ?ear! 4ater& n ear4? 1 %& theexchange rate 5a! J;%($1 an' the >/ 4' ng ! @a4/e ha' c 44a0!e' t $%# 44 n.

a. *hat exchange r ! ' ' the a0ane!e n@e!t r 3ace at the t e 3 h ! 0/rcha!e+

ANSWER . The r ! ! that the @a4/e 3 the ' 44ar 5 /4' 3a44 aga n!t the ?en an' that the ' 44ar re@en/e! 5 /4' n tee0 /0 5 th the 'ec4 ne n the @a4/e 3 the ' 44ar.

>. H 5 c /4' the n@e!t r ha@e he'ge' h ! r ! +

ANSWER . The n@e!t r c /4' ha@e 3 nance' h ! 0/rcha!e 3 the >/ 4' ng >? > rr 5 ng ' 44ar!& ! that the @er?!a e e@ent that 4e' t a 'ec4 ne n the ?en @a4/e 3 h ! a!!et88na e4?& a ' 44ar 'ec4 ne88 5 /4' ! /4tane /!4?re'/ce the ?en c !t 3 the 4 a> 4 t? /!e' t 3 nance that a!!et. He c /4' a4! ha@e ta en /t a 4 ng8'ate' 3 r5ar'c ntract t he'ge the ?en @a4/e 3 h ! >/ 4' ng. N th ng 5 /4' ha@e 0r tecte' the n@e!t r 3r the 'ec4 ne n the

>/ 4' ng ! ' 44ar 0r ce.

c. )/00 !e the n@e!t r 3 nance' the >/ 4' ng 5 th a 1# 0ercent ' 5n0a? ent n ?en an' a # 0ercent ' 44ar 4 anacc/ /4at ng ntere!t at the rate 3 ; 0ercent 0er ann/ . ) nce th ! ! a er 8c /0 n 4 an& the ntere!t n t Ba4 ng

5 th the 0r nc 0a4 ! n t '/e an' 0a?a>4e /nt 4 the >/ 4' ng ! ! 4'. H 5 /ch ha! the n@e!t r 4 !t n ?en ter !+In ' 44ar ter !+

ANSWER . a!e' n the 1# ' 5n0a? ent& the n@e!t r ! n t a4 ?en n@e!t ent 5a! J1.-% > 44 n B#.1# x 1##44 n x 1-% . At an ntere!t rate 3 ; & the $ # 44 n 4 an /!e' t 3 nance the >a4ance 3 the >/ 4' ng ! 0r ce

5 44 gr 5 >? the en' 3 3 @e ?ear! t $1< & < &% 7 B1.#;% x $ ##### . =0 n !e44 ng the >/ 4' ng an' 0a? ng 33 the 4 an& the n@e!t r 5 44 ha@e a ' 44ar 4 !! 3 $; & < &% 7 B$1< & < &% 7 8 $%##### . At the c/rrent !0 t

3 J;%($1& th ! ' 44ar 4 !! tran!4ate! nt a ?en 4 !! 3 J,. > 44 n. A'' ng th ! 4 !! t the n@e!t r ! n t a4' 5n0a? ent 3 J1.-% > 44 n ? e4'! a t ta4 ?en 4 !! 3 r the n@e!t r 3 J;.-- > 44 n.


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'. )/00 !e the n@e!t r 3 nance' the >/ 4' ng 5 th a 1# 0ercent ' 5n0a? ent n ?en an' a # 0ercent ?en 4 anacc/ /4at ng ntere!t at the rate 3 < 0ercent 0er ann/ . ) nce th ! ! a er 8c /0 n 4 an& the ntere!t n t Ba4 ng5 th the 0r nc 0a4 ! n t '/e an' 0a?a>4e /nt 4 the >/ 4' ng ! ! 4'. H 5 /ch ha! the n@e!t r 4 !t n ?en ter !+In ' 44ar ter !+

ANSWER . I3 the n@e!t r ha' 3 nance' the >/ 4' ng 5 th the # ?en 4 an& the n@e!t r 5 /4' ha@e ha' t > rr 51####### x #. # x J1-% " J1 44 n. At an ntere!t rate 3 < & the J1 44 n 4 an 5 44 gr 5 >? the en'3 3 @e ?ear! t J1%.1< > 44 n B1.# 44 n

B%##### x ;% . A3ter 0a? ng 33 the 4 an& the n@e!t r ha! a 4 !! 3 J1#.;; > 44 n. A'' ng t th ! 4 !! the n t a4' 5n0a? ent 3 J1.-% > 44 n 0r '/ce! a t ta4 4 !! 3 r the n@e!t r 3 J1 . 44 n. It can >e !een 3r thean!5er t 0art c that the /!e 3 ' 44ar 3 nanc ng re'/ce' the n@e!t r ! 4 !!. The n@e!t r& 3 c /r!e& 4 !t an?5a?

>eca/!e the @a4/e 3 the >/ 4' ng 'ec4 ne' n!tea' 3 r ! ng >? at 4ea!t the rate 3 ntere!t.

1#. O@er the 0a!t ?ear& Ch na ha! ex0er ence' an n34at n rate 3 a> /t 17 0ercent& n c ntra!t t =.). n34at n 3 a> /t .% 0ercent. At the !a e t e& the exchange rate ha! g ne 3r 6;.7(=.).$1 t 6;. (=.).$1.

a. *hat ha! ha00ene' t the rea( @a4/e 3 the ?/an @er the 0a!t ?ear+ Ha! t g ne /0 r ' 5n+ A 4 tt4e r a 4 t+

ANSWER . The rea4 @a4/e 3 the ?/an& re4at @e t t! @a4/e ne ?ear ag & ha! r !en ! gn 3 cant4?. )0ec 3 ca44?& n' 44ar ter !& the n na4 exchange rate ha! a00rec ate' 3r $#.11- B1(;.7 t $#.1 # B1(;. & a ,.1 ncrea!eB #.1 # 8 #.11- D(#.11- . In rea4 ter !& the ?/an ha! a00rec ate' t $#.1 # x 1.17(1.# % " $#.1< . Th/!& therea4 @a4/e 3 the ?/an ha! r !en >? 1.1 :


27/27

B#.1< 8 #.11- (#.11- " 1.1

I3 0/rcha! ng 0 5er 0ar t? he4'& the ?/an !h /4' ha@e 'e@a4/e' t a ne5 exchange rate 3

e " ;.7 x 1.17(1.# % " 6 . eca/!e at th ! exchange rate& the rea4 rate re a n! at 6;.7($:

Rea4 rate " . < x 1.# %(1.17 " 6;.7($

>. *hat are the 4 e4? e33ect! 3 the change n the ?/an ! rea4 @a4/e n the ' 44ar 0r 3 t! 3 a c 0an? 4 ePr cter [ Ga >4e that !e44! a4 !t exc4/! @e4? n the 4 ca4 ar et+

ANSWER . A rea! na>4e a!!/ 0t n ! that P[G ! !a4e!& 5h ch are generate' ' e!t ca44?& ha@e r !en at4ea!t at the rate 3 Ch ne!e n34at n. Mean5h 4e& c !t! are 0art a44? 'en nate' n ' 44ar! B@ a 0 rt! 3 @ar /! n0/t! an' 0art a44? n ?/an B@ a 4 ca44?8! /rce' n0/t!& nc4/' ng 4a> r . Hence& c !t! ha@e r !en

>? 4e!! than the rate 3 Ch ne!e n34at n B! nce the n34at n8a' /!te' @a4/e 3 the ' 44ar an'& there3 re&' 44ar8'en nate' c !t! ha@e 3a44en . Th ! ean! that ?/an 0r 3 t!& 5h ch e2/a4 the ' 33erence >et5eenre@en/e! an' c !t!& ha@e r !en at 4ea!t 17 @er the 0a!t ?ear. In t/rn& g @en the ,.1 r !e n the ' 44ar @a4/e 3 the ?/an& ' 44ar 0r 3 t! 3 r P[G !h /4' ha@e r !en >? at 4ea!t - B1.17 x 1.#,1 8 1 . The!ere!/4t! /!t 0 nt t the re genera4 tr/th that an ncrea!e n the rea4 @a4/e 3 the 4 ca4 c/rrenc? !h /4'

> !t ' 44ar 0r 3 t! 3 r th !e 3 r ! !e44 ng 4 ca44? an' n t !/> ect t 0 rt c 0et t n.

c. *hat are the 4 e4? e33ect! 3 the change n the ?/an ! rea4 @a4/e n the ' 44ar 0r 3 t! 3 a text 4ean/3act/rer that ex0 rt! !t 3 t! /t0/t t the =n te' )tate!+ *hat can t ' t c 0e 5 th the!e

e33ect!+

ANSWER . The 0act 3 the r !e n the rea4 @a4/e 3 the ?/an n a text 4e an/3act/rer that ex0 rt! !t3 t! /t0/t t the =.). 5 44 >e the 00 ! te 3 t! 0act n P[G. )0ec 3 ca44?& the text 4e an/3act/rer

5 44 3 n' that t! c !t! n ' 44ar ter ! ha@e r !en >? a> /t - Bta ng nt acc /nt the c > ne' e33ect! 3 Ch ne!e n34at n an' ?/an a00rec at n 5herea! t! ' 44ar re@en/e! ha@e r !en >? a> /t the rate 3 =.).

n34at n& r .% . The c > nat n 3 a .% r !e n re@en/e! an' a - r !e n c !t! ean! !hr n ngarg n! n ' 44ar!. ) nce the ' 44ar ha! 3a44en aga n!t the ?/an& the re!/4t n an e@en > gger !2/ee e n the

?/an 0r 3 t arg n.

foreign exchange markets, end of chapter solutions

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