Question 4a) Differentiate between the different types of foreign exchange exposure that multinationalcompanies usually face when engaging in cross-border transactionsb) Assume that the one-year interest rate is 3% (per annum) in the UK and 2% (per annum)in the Euro area. Also, assume that the current spot exchange rate of one pound to the eurois €1.1500/£ and that the corresponding one-year forward rate is €1.1400/£.i) Provide calculations to show whether the Interest Rate Parity (IRP) theory holds.ii) A UK-based investor has £200,000 to invest for a year either in the Euro area or the UK.Using the above information, determine which investment will generate a higher return for iii) Discuss the extent to which your results in i) and ii) above provide support to theCovered Interest Rate Parity (CIRP) condition.

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International Financial Management

14th Edition

ISBN:9780357130698

Author:Madura

Publisher:Madura

ChapterP2: Part 2: Exchange Rate Behavior

Section: Chapter Questions

Problem 1Q

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Question 4
a) Differentiate between the different types of foreign exchange exposure that multinational
companies usually face when engaging in cross-border transactions

b) Assume that the one-year interest rate is 3% (per annum) in the UK and 2% (per annum)
in the Euro area. Also, assume that the current spot exchange rate of one pound to the euro
is €1.1500/£ and that the corresponding one-year forward rate is €1.1400/£.
i) Provide calculations to show whether the Interest Rate Parity (IRP) theory holds.
ii) A UK-based investor has £200,000 to invest for a year either in the Euro area or the UK.
Using the above information, determine which investment will generate a higher return for

iii) Discuss the extent to which your results in i) and ii) above provide support to the
Covered Interest Rate Parity (CIRP) condition.

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