Textbook Problem

Interest Rate Parity Application to Short-Term Financing Connecticut Co. plans to finance its U.S. operations. It can borrow euros on a short-term basis at a lower interest rate than if it borrowed dollars.

1. If interest rate parity does not hold, what strategy should Connecticut Co. consider when it needs short-term financing?
2. Assume that Connecticut Co. needs dollars. It borrows euros at a lower interest rate than the interest rate for dollars. If interest rate parity exists and if the forward rate of the euro is a reliable predictor of the future spot rate, what does this suggest about the feasibility of such a strategy?
3. If Connecticut Co. expects the current spot rate to be a more reliable predictor of the future spot rate, what does this suggest about the feasibility of such a strategy?