Assume that initially, the risk premium, ρ = 0 and that the domestic and foreign interest rates are given by R = .06, R* = .05. Suppose that the risk premium depends linearly on the difference between domestic government debt, B, and domestic assets of the central bank, A, i.e., ρ = ρ (B-A) Find the new domestic interest rate if a sterilized purchase of foreign assets adjusts A s.t. (a) B - A = -.01/ ρ0 (b) B - A = .03/ ρ0

Assume that initially, the risk premium, ρ = 0 and that the domestic and foreign interest rates are given by R = .06, R* = .05. Suppose that the risk premium depends linearly on the difference between domestic government debt, B, and domestic assets of the central bank, A, i.e., ρ = ρ (B-A) Find the new domestic interest rate if a sterilized purchase of foreign assets adjusts A s.t. (a) B - A = -.01/ ρ0 (b) B - A = .03/ ρ0

International Financial Management

14th Edition

ISBN:9780357130698

Author:Madura

Publisher:Madura

Chapter9: Forecasting Exchange Rates

Section: Chapter Questions

Problem 1BIC

See similar textbooks

Similar questions

D4) Finance If the foreign interest rate is 4%, the risk premium on domestic assets, ρ, is 18%, and the expected rate of depreciation of the domestic currency against the foreign currency is 3%, what is the domestic interest rate in percentage terms, given covered interest parity holds? [All variables have a 1-year time frame.]
Consider the monetary policy rule under financial frictions. If f >0 the prevailing market real interest rate will be the federal funds rate? equal to lower than higher than
D6) If the foreign interest rate is 4%, the risk premium on domestic assets, ρ, is 18%, and the expected rate of depreciation of the domestic currency against the foreign currency is 3%, what is the domestic interest rate in percentage terms, given covered interest parity holds? [All variables have a 1-year time frame.]
Let i be home interest rates, i* a foreign interest rates and p be the forward foreign exchange premium (=F/S-1). Assume there is a transaction cost equal to C incurred in any covered interest rate arbitrage. Write down the relation by which incentives are present for money to move from the foreign country to home.
Which of the following instruments has the highest cost? Seleccione una: a. Fed Funds b. Commercial Paper c. Eurodollars d. Prime rate
Q2-2 In the portfolio balance approach, which of the following (other things equal) will cause an increase in the demand for domestic bonds by home country citizens? a. a decrease in the home country interest rate b. an increase in the home country price level c. an increase in the home country real income level d. a decrease in the expected rate of appreciation of the foreign currency (or a decrease in the expected rate of depreciation of the home currency)
T/F a. According to Expectation theory, long-term rates are geometric average of current and expected short-term rates. b. The swap curve usès on-the-run prices at plot points. C. When a bond is traded, the seller owes the buyer accrued interest. d. Higher inflation rates lead to higher required interest rates. e. If prices increase, then velocity and/or quantities decrease. f. Quantitative easing adds liquidity when the federal funds rate is negative. g. Bonds may trade in advance of Treasury auction. h. Off the run bonds are the most recently auctioned off for a given initial maturity. i. The yield curve never uses the on-the-run Treasuries. j. If the yield curve in upward sloping, investors expect lower inflation or real rates.
Accounting for Fair Value Hedge: Interest Rate Swap On January 1 of Year 1, Innovative Lab issued a 4-year $50,000 note to a local bank with fixed interest payments based on 6%, payable annually on December 31. To hedge the risk of a fixed interest payment, Innovative Lab entered into a 4-year interest rate swap agreement on January 1 of Year 1, calling for interest payments tied to a designated benchmark interest rate to a counterparty and receipt of interest based on 6%, negotiated at a notional amount of $50,000. The settlement date for the net cash payment is on December 31 of each year. The following table provides additional information related to the interest rate swap as forecasted over the next 4 years. Fair value: Interest rate swap Fair value: note payable Benchmark interest rate Required Dec. 31, Year 1 Dec. 31, Year 2 Dec. 31, Year 3 Dec. 31, Year 4 $200 $0 $50,200 4.2% $400 $50,400 4.0% $0 $50,000 5.2% $50,000 5.8% a. Record the required journal entries for Year 1, Year…
What risk is due to changes in the level of interest rate in the economy and may affect industries at the same time? a.systematic risk b. inflation rate risk c.foreign exchange rate risk d.interest rate risk
Let rf be the risk free rate of interest. E[r e ] be the expected return of some risky asset. Suppose that this risky asset pays out in states when the aggregate endowment is particularly low. There are three possibilities: ( a) E[r e ] > rf (b) E[r e ] = rf (c) E[r e ] < rf Which case applies to E[r e ] and why?
The elasticity of the change of the price of debt toward the change in interest rate is the absolute value of (and then divided by(1+r)) a. Convexity b. Maturity c. Duration d. Immunization
Suppose there are no transaction costs. If the one year forward rate of the euro is an accurate estimate of the spot rate one year from now, then the actual cost of hedging payable will be: A. positive if the forward rate exhibits a premium, and negative if the forward rate exhibits a discount. B. positive. C. negative. D. zero.