# Problem A. Franc Terms

1762 Words Nov 30th, 2016 8 Pages
Problem A
Franc Terms
(iyen-isf)/(1+isf)=(sf/yenS-sf/yenF)/sf/yenF
(iyen-0.1)/(1+0.1)=(0.01-0.0125)/0.0125
(iyen -0.1)/1.1=-0.2
{*1.1, +0.1} both sides
(iyen -0.1)=-0.22 iyen = -0.22+0.1 iyen=-0.12= 12%
Yen Terms
(iyen-isf)/(1+isf) = (yen/sfF-yen/sfS)/yen/sfS
(iyen – 0.1)/ (1+0.1) = (80-100)/100
(iyen-0.1)/1.1=-0.2
iyen-0.1=-0.2*1.1 iyen=-0.2*1.1+0.1 iyen=-0.12 = 12%
When rate is 6%
(iyen-isf)/(1+isf) = (yen/sfF-yen/sfS)/yen/sfS
(0.06-0.1)/(1+0.1)= (80-100/100)
-0.04/1.1=-20/100
-0.0364=-0.2
There is not equilibrium, therefore, the Yen interest rate is lower than franc and with 6% equilibrium can only be attained when yen increase by -0.0364 so as to can make higher yield returns as Swiss Franc in the forward market.

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Problem B
The inflation rate in Britain=2%
The inflation rate in Australian dollars=8%
The spot ER=BP/A=1:The exchange rate is kept at unity
(0.08 – 0.02) / 1.02 = (1e/\$ - S^ex) / S^ex
0.058823529 S^ex = 1e/\$ - S^ex
The forward rate of British pounds thus can be:
1.058823529 S^ex = 1e/\$
S^ex = 0.94444445e/\$
For instance, Suppose Britain is the home country having the inflation rate of 2% and the foreign country which s Australia having an inflation of 8%.Then the foreign currency will have to depreciate by 6% (%∆e(foreign currency/domestic currency) = 6%) to help in offsetting the 6% fall in the real exchange rate caused by…