FIN 3604 - Exam 1

A currency carry trade is a trading strategy that involves borrowing a currency at a _________ interest rate and investing in a currency that provides a __________ rate of return. A. lower; higher B. higher; lower C. lower; lower D. higher; higher

A. lower; higher

What is the relationship between interest rate and FX? A. A negative relation (i.e., if a government raised the interest rate, the government expected its currency to weaken) B. A positive relation (i.e., if a government raised the interest rate, the government expected its currency to strengthen)

B. A positive relation (i.e., if a government raised the interest rate, the government expected its currency to strengthen)

When Interest Rate Parity (IRP) does not hold, ____________________ . A. there is usually a high degree of inflation in at least one country B. there are opportunities for covered interest arbitrage C. the financial markets are in equilibrium D. currency hedging costs are low

B. there are opportunities for covered interest arbitrage

Assume that the interest rate on a one-year insured home country bank deposit is 2.8%, and the interest rate on a 1-year insured foreign bank deposit is 1.2%. For the actual returns of these two investments to be similar from the perspective of investors in the home country, the foreign currency would have to _____________ over the investment horizon by approximately 1.6% (2.8%-1.2%=1.6%). A. appreciate B. depreciate

A. appreciate

Exports of goods and services are entered into balance of payments as _____, while imports of goods and services are entered into balance of payments as _________. A. credits; debits B. debits; credits

A. credits; debits

Suppose you want to buy $10,000,000 worth of Euros and then sell them five minutes later for U.S. dollars. How much of your $10,000,000 would be "eaten" by the bid-ask spread, given the following bid-ask prices. Bid Ask S($ per €1) 1.1364 06 A. $5,279.83 B. $5,277.04 C. $2,152.34 D. $6,000,00

B. $5,277.04 Explanation: (1.1370-1.1364)/1.1370*$10,000,000=$5,277.04

In a pure flexible exchange rate regime, a country's central banks will not need to maintain official reserves. Under this regime ____________. A. BSA=BKA B. -BCA=BKA C. BKA=-BRA D. BCA=-BRA=0

B. -BCA=BKA

Consider a GBP-USD bid-ask quote of $1.9072-$1.9077. The currency dealer would likely quote that as ____________. A. 5 points B. 72-77 C. 77-72

B. 72-77

Since parity conditions are long-term equilibrium conditions, they hold on average, but frequently deviations do occur. True False

True

International finance is special because of the role of government. True False

True

For a USD/CHF FX spot rate of 1.2389 - 1.2391, _________ is the BIG figure. A. 1.2391 B. 89 C. 1.23 D. 91

C. 1.23

Direct bid is the reciprocal of indirect ask. True False

True

Please match the parity relationship with the appropriate prediction. 1. Countries with higher inflation rates have higher nominal interest rate 2. The currency with the higher inflation rate is expected to depreciate relative to the currency with the lower rate of inflation 3. One unit of currency has same purchasing power globally 4. Spot exchange rates adjust to the nominal interest rate differential between two countries 5. The forward exchange rate premium equals (approximately) the interest rate differential

1. Fisher Effect 2. Relative PPP 3. Absolute PPP 4. International Fisher 5. Interest Rate Parity

(Step 1 of CIA) Assume you have good credit and can borrow either $1,000,000 or €800,000 for one year. The one-year interest rate in the U.S. is i$ = 3% and in the euro zone the one-year interest rate is i€ = 2%. The spot exchange rate is $1.25 = €1.00 and the one-year forward exchange rate is $1.24 = €1.00. What is the intrinsic interest rate in the United States? A. 1.18% B. 2.82% C. 3.83% D. 2.08%

A. 1.18% Explanation: The intrinsic value in the U.S is 1.1844% < market rate = 3% This is calculated using the interest rate parity formula: 1.24=1.25 x 1+i$*/1.02 1.24/1.25= 1 + i$ * 1.02(1.24/1.25)= 1 + i$* .01184=i$*

Approximately _______ percentage of products and services produced or sold by S&P 500 companies are from outside the United States. A. 40-50 B. 0-10 C. 10-20 D. 80-90

A. 40-50

Which of the following conditions give rise to capital flight (i.e., capital outflow) from a country? A. A sudden and dramatic change in foreign investors' appetite for investing in the country. B. The country enjoys rapid economic growth and social and political stability. C. Investors can accurately assess the financial conditions of the country. D. Most of the country's capital account is in the form of direct investment, while only a small fraction is in portfolio investment.

A. A sudden and dramatic change in foreign investors' appetite for investing in the country.

Why were the FX traders able to bring the Bank of England to its knees? A. Both statements are correct. B. Foreign exchange traders could use leverage and make huge bets. C. British economy was an open economy and hence the market force would eventually prevail.

A. Both statements are correct.

Why were the objectives of the German governments and the British governments at odds? A. British economy was in recession, while Germany economy was overheating. The two governments wanted to use different monetary policies to address the economic problem. B. Germany economy was in recession, while British economy was overheating. The two governments wanted to use different fiscal policies to address the economic problem.

A. British economy was in recession, while Germany economy was overheating. The two governments wanted to use different monetary policies to address the economic problem.

Which of the following statement is FALSE? A. EUR-USD spot rate is 1.1856, which means that a trader can purchase one unit of the base currency of USD by paying 1.1856 units of the quote currency of EUR. B. The bid-ask spread covers the bank's cost of conducting foreign exchange transactions. C. At any given point in time, a bank's bid quote for a foreign currency will be less than its ask quote. D. The more intense the competition, the smaller the spread quoted by banks.

A. EUR-USD spot rate is 1.1856, which means that a trader can purchase one unit of the base currency of USD by paying 1.1856 units of the quote currency of EUR. Explanation: EUR-USD spot rate is 1.1856, which means that a trader can purchase one unit of the base currency of EUR by paying 1.1856 units of the quote currency of USD.

Invisible trade refers to ________________. A. Legal, consulting, and engineering services B. Services that avoid tax payments C. The underground economy D. Imports and exports of tangible goods E. Tourist expenditures, only

A. Legal, consulting, and engineering services

Which of the following will NOT help stabilize a country's currency exchange rate? A. Persistent current account deficit B. Steady GDP growth rate C. Low inflation rate D. Stable interest rate E. Transparent rules and laws

A. Persistent current account deficit

Which of the following is a likely benefit of have a weak currency? A. Potential to increase export B. Weaker inflationary pressure C. Potential for increasing international reserve D. Lower foreign debt service costs

A. Potential to increase export

Which of the following countries hosts the largest FX trading market? A. The United Kingdom B. Japan C. China D. Germany

A. The United Kingdom

When a currency trades at a discount in the forward market ______. A. The forward rate is less than the spot rate. B. The forward rate is more than the spot rate.

A. The forward rate is less than the spot rate.

When investors become aware of overseas investment opportunities and are willing to diversify their portfolios internationally, ____________. A. They enjoy a greater extent the only "free-lunch" in finance-the diversification benefits. B. They trade one market imperfection (e.g., information asymmetry) for another (e.g., exchange rate risk). C. They should not bother to read or to understand annual reports by foreign companies, since they are written in a foreign language. D. They should invest only in U.S. dollars or euros.

A. They enjoy a greater extent the only "free-lunch" in finance-the diversification benefits.

Which of the following currencies is like to be the funding currency in a carry trade: Australian dollars when the interest rate in Australia is high Mexican Peso during a presidential election US dollars when the interest rate in the United States is low Correct Answer A. US dollar B. Mexican peso C. Australian dollar

A. US dollar

Suppose Mexico is a major export market for your U.S.-based company and the Mexican peso depreciates drastically against the U.S. dollar, as it did in December 1994. This means that ________________. A. Your company's products can be priced out of the Mexican market, as the peso price of American imports will rise following the peso's fall B. Your firm will be able to charge more in dollar terms C. Your domestic competitors will enjoy a period of facing little price competition from Mexican imports

A. Your company's products can be priced out of the Mexican market, as the peso price of American imports will rise following the peso's fall

The International Fisher Effect (IFE) is an economic theory stating that the expected disparity between the exchange rate of two currencies is approximately equal to their countries' __________. A. real interest rates B. nominal interest rates C. inflation rates

B. nominal interest rates

Based on the following information, what is the ASK price for AUD-Yen (i.e., AUD is the base currency, and Yen is the quote currency)? American Terms USD Bank Quotations Bid Ask Yen (JPY) 0.0085 0.0088 Aus (AUD) 0.7490 0.7945 A. AUD$1.00 = ¥90.2273 B. AUD$1.00 = ¥93.4706 C. AUD$1.00 = ¥0.0107 D. AUD$1.00 = ¥0.0111

B. AUD$1.00 = ¥93.4706 Explanation: ASK price for AUD-Yen = (Direct ask AUD-USD) * (Indirect ask USD-Yen) = (0.7945(*(1/0.0085)=93.4706 Indirect ask is the reciprocal of direct bid: Indirect ask USD-Yen = 1/ direct bid Yen-USD = 1/0.0085

Which of the following statements is FALSE? A. Covered Interest Arbitrage (CIA) activities results in restoring equilibrium prices quickly. B. If a foreign country experiences a hyperinflation, its currency should appreciate against stable currencies. C. The benefit to forecasting exchange rates accrues to, and are a vital concern for, MNCs formulating international sourcing, production, financing and marketing strategies D. If international capital markets are fully integrated, real interest rates should be the same across countries. E. If the forward rate is unbiased, then it should reflect the expected future spot rate.

B. If a foreign country experiences a hyperinflation, its currency should appreciate against stable currencies.

Which of the following statement is INCORRECT? A. The "J-curve effect" shows the initial deterioration and the eventual improvement of a country's trade balance following a currency depreciation. B. In the long run, both exports and imports tend to be unresponsive to changes in exchange rates. C. When a country's currency depreciates against the currencies of major trading partners, the country's exports tend to rise and imports fall. D. If the United States imports more than it exports, then this means that the supply of dollars is likely to exceed the demand in the foreign exchange market, ceteris paribus.

B. In the long run, both exports and imports tend to be unresponsive to changes in exchange rates.

Which of the following statements is FALSE? A. The foreign exchange market is a global decentralized market. B. Most foreign exchange transactions take place amongst retail traders. C. Dealers make money by earning the bid-ask spread. D. When you hear on the news that Euro-Pound is going down, Euro is getting weaker.

B. Most foreign exchange transactions take place amongst retail traders.

Production of goods and services has become globalized to a large extent as a result of ____________. A. Natural resources being depleted in one country after another. B. Multinational corporations' efforts to source inputs and locate production anywhere where costs are lower and profits higher. C. Increasing protectionism around the globe. D. Increasing populism around the globe.

B. Multinational corporations' efforts to source inputs and locate production anywhere where costs are lower and profits higher.

Which of the following statement in FALSE? A. Relative Purchasing Power Parity is an extension of the traditional Purchasing Power Parity theory to include changes in inflation over time. B. Relative Purchasing Power Parity suggests that countries with lower rates of inflation will have a devalued currency. C. An arbitrage is best defined as the act of simultaneously buying and selling the same or equivalent assets or commodities for the purpose of making guaranteed profits. D. Purchasing power is the power of money expressed by the number of goods or services that one unit can buy, and which can be reduced by inflation. E. While frequently failing to hold true in practice, purchasing power parity is still a useful economic theory because it helps predict where FX is eventually heading.

B. Relative Purchasing Power Parity suggests that countries with lower rates of inflation will have a devalued currency.

The most heavily traded instrument in the FX market is ___________. A. Forwards B. Swaps C. Futures D. Spot E. Options

B. Swaps

Which of the following economies has the highest consumer spending? A. China B. The United States C. Germany

B. The United States

When a currency trades at a premium in the forward market _________ . A. The forward rate is less than the spot rate B. The forward rate is more than the spot rate

B. The forward rate is more than the spot rate

When firms expand operation overseas, A. They incur a higher cost of capital because their earnings become more volatile. B. They incur a lower cost of capital because they can borrow where the capital is cheapest. C. They have fewer profitable projects to choose from because they face a higher cost of capital. D. They incur a higher cost of capital because investing in foreign countries is risky.

B. They incur a lower cost of capital because they can borrow where the capital is cheapest.

The most important international reserve asset, comprising over 80 percent of the total reserve assets held by IMF member countries is _____________. A. Gold B. U.S. Dollars C. Euro D. Japanese Yen

B. U.S. Dollars

Generally speaking, any transaction that results in a receipt from foreigners _________. A. Will be recorded as a debit, with a negative sign, in the U.S. balance of payments B. Will be recorded as a credit, with a positive sign, in the U.S. balance of payments C. Will be recorded as a debit, with a positive sign, in the U.S. balance of payments D. Will be recorded as a credit, with a negative sign, in the U.S. balance of payments

B. Will be recorded as a credit, with a positive sign, in the U.S. balance of payments

The Big-Mac index was invented by The Economist in 1986 as a lighthearted guide to whether currencies are at their "correct" level. It is based on the ____ purchasing-power parity. A. relative B. absolute

B. absolute

Suppose the inflation rate in Japan is expected to be 1% in the next year and 8% in Mexico, then the Relative Purchasing Power Parity predicts Mexican peso to ________ by _______ during the next year. A. depreciate; 8% B. depreciate; 7% C. appreciate; 1% D. appreciate; 7%

B. depreciate; 7%

To correctly execute coverage interest arbitrage, you should borrow in currency whose intrinsic rate is ______ than the market interest rate. A. lower B. higher

B. higher

Which of the following conditions tend to generate profits for carry trades? i. When the funding currency is converted to a currency, which is then invested at a much higher interest rate than the interest rate for borrowing in the funding currency. ii. Buying the investment currency drives up the yields of debts denominated in the investment currency iii. The investment currency appreciates against the funding currency A. i and ii B. i and iii C. i, ii, and iii

B. i and iii

(Triangular arbitrage, 1/3) You are a U.S.-based treasurer with $1,000,000 to invest. The euro-dollar exchange rate is quoted as $1.40 = €1.00 and the pound-dollar exchange rate is quoted as $1.65 = £1.00. If a bank quotes you a cross rate of £1.00 = €1.20, the intrinsic value for the cross rate is _____________________. A. £1.00 = €2.3100 B. £1.00 = €1.1786 C. £1.00 = €0.8571 D. £1.00 = €0.8485 E. £1.00 = €1.3750

B. £1.00 = €1.1786 Explanation: Take the market pound-US dollar rate of 1.65 and divide it by the market euro-US dollar rate of 1.4 to get an intrinsic pound-euro rate of 1.1786

If the $/€ bid and ask prices are $1.50/€ and $1.51/€, respectively, the corresponding €/$ bid and ask prices are ________. A. €0.6667 and €0.6623 B. €0.6623 and €0.6667 C. $1.51 and $1.50

B. €0.6623 and €0.6667 Explanation: The bid price of an indirect quote is the inverse of the ask price of a direct quote €/$: 1/1.51 = 0.6623. Conversely, the ask price of an indirect quote is the inverse of the bid price of a direct quote €/$: 1/1.50 = 0.6667

Suppose that the current exchange rate is €0.80 = $1.00. The direct quote, from the U.S. perspective is ____________ A. €0.80 = $1.00 B. €1.00 = $1.25

B. €1.00 = $1.25 Explanation €0.80/$1.00=€1.00/x, solve for x to get x=$1.25

A speculator in New York wants to take a €10,000 position in US dollars. He faces the following bid-ask prices. After his trade, what will be the speculator's position? Bid Ask S($ per €1) 1.0204 05 S(€ per $1) 0.9795 05 A. $10,209 B. $9,795 C. $10,204 D. $9,800

C. $10,204 Explanation: The indirect ask price = 0.9795+0.0005 = 0.9800. Buy $ at the indirect ask price of €0.98/$1. Therefore €10,000/€0.98*$1 = $10,204

Step 3 of CIA) Assume you have good credit and can borrow either $1,000,000 or €800,000 for one year. The one-year interest rate in the U.S. is i$ = 3% and in the euro zone the one-year interest rate is i€ = 2%. The spot exchange rate is $1.25 = €1.00 and the one-year forward exchange rate is $1.24 = €1.00. How much profits can you make by entering into a coverage interest arbitrage? A. $8,160.00 B. $15,279.82 C. $18,160.00 D. $14,645.16

C. $18,160.00 Explanation: 1. Borrow €800,000 @2% + €800,000 -$800,000*1.02 = -€816,000 2. Buy $ @spot,by selling €- €800,000 +$800,000*1.25 = +$1,000,000 3. Lend $ @3% - $1,000,000 +1,000,000*1.03 = $1,030,000 4. Buy € forward 0 + €816,000 -€816,000*F($/£) = €816,000*1.24 = +$1,011,840 Net CF 0 $18,160

(Triangular arbitrage, 3/3) You are a U.S.-based treasurer with $1,000,000 to invest. The euro-dollar exchange rate is quoted as $1.40 = €1.00 and the pound-dollar exchange rate is quoted as $1.65 = £1.00. If a bank quotes you a cross rate of £1.00 = €1.20, how much money can an astute trader make? A. $292,929.29 B. No arbitrage profits exist C. $18,181.82 D. $17,857.14 E. $414,285.71

C. $18,181.82 Explanation: There is money to be made. The market cross rate for pound/euro is 1.2. Follow the below steps: 1.) take the market pound-US dollar rate of 1.65 and divide it by the market euro-US dollar rate of 1.4 to get an intrinsic pound-euro rate of 1.1786 NOTE: intrinsic value is less than market value, therefore the POUND is overpriced and the EURO is underpriced. 2.) starting with $1,000,000 in investment capital, convert US dollars to the pound by dividing $1,000,000/1.65 to get 606,060.6061 pounds 3.) convert these pounds to euros by using the market pound-euro cross rate and multiply 1.2*606,060.6061 to get 727,272.7273 euros 4.) convert these euro to dollars by multiplying 1.4*727,272.7273 to get $1,018,181.8182 5.) subtract: $1,018,181.8182 - $1,000,000 = $18,181.8182 (you profit by this much)

Assume that the balance-of-payments accounts for a country are recorded correctly. Balance on the current account = BCA = $130 billion Balance on the capital account = BKA = -$86 billion, then the balance on the reserves account (BRA), under the fixed exchange regime is ________. A. $44 billion B. $216 billion C. -$44 billion

C. -$44 billion Explanation: BCA+BKA+BRA=0 =>BRA = -BKA-BCA=86-130=-44

The €/¥ spot exchange rate is ¥110/€1 and the 120-day forward exchange rate is ¥120/€1. Therefore, the forward premium (discount) is _________________ . A. 3.71% B. 9.09% C. 27.27% D. 32.73%

C. 27.27% Explanation: ((120-110)/110)*(360/120) = 27.27%

Balance of payments _____________. A. Provides detailed information concerning the demand and supply of a country's currency B. Can be used to evaluate the performance of a country in international economic competition C. All of the above D. Is defined as the statistical record of a country's international transactions over a certain period of time presented in the form of a double-entry bookkeeping

C. All of the above

Black Wednesday Hwk What did the British government want to do with their interest rate? A. Raise B. Unable to tell from watching the video C. Cut

C. Cut

Which of the following statement is FALSE? A. Currency risk in a carry trade is seldom hedged because hedging would either impose an additional cost or negate the positive interest rate differential if currency forwards are used. B. The carry trade is profitable as long as the interest rate differential is greater than the appreciation of the currency with a low interest rate against the currency with a high interest rate. C. Funding currency in a carry trade is frequently a volatile currency e.g., Saudi riyal that is sensitive to oil price movements. D. Carry trade has paid off on average because historically interest rate differences haven't reflected actual subsequent exchange rate movements. E. One hallmark pattern of carry trade is steady rise in small profits and then sudden crash.

C. Funding currency in a carry trade is frequently a volatile currency e.g., Saudi riyal that is sensitive to oil price movements. Explanation: Funding currency in a carry trade is typically a safe-haven currency such as Japanese yen.

Black Wednesday Hwk What did the German government want to do with their interest rate? A. Unable to tell from watching the video B. Cut C. Raise

C. Raise

(Triangular arbitrage, 2/3) You are a U.S.-based treasurer with $1,000,000 to invest. The euro-dollar exchange rate is quoted as $1.40 = €1.00 and the pound-dollar exchange rate is quoted as $1.65 = £1.00. If a bank quotes you a cross rate of £1.00 = €1.20, you should _________. A. Sell GBP (£) and buy USD ($) B. Sell USD ($) and buy Euro (€) C. Sell GBP (£) and buy Euro (€) D. Sell Euro (€) to buy GBP (£)

C. Sell GBP (£) and buy Euro (€) Explanation: Take the market pound-US dollar rate of 1.65 and divide it by the market euro-US dollar rate of 1.4 to get an intrinsic pound-euro rate of 1.1786. NOTE: intrinsic value is less than market value, therefore the POUND is overpriced and the EURO is underpriced. Therefore, you should sell GBP, buy euro.

Which of the following statement is FALSE? A. A country with increasing political uncertainty tends to have a weakening currency. B. Bimetallism is a monetary standard or system based upon the use of two metals—traditionally gold and silver—rather than one (monometallism). C. The "J-curve effect" shows the initial improvement and the eventual depreciation of a country's trade balance following a currency depreciation. D. When a country's currency depreciates against the currencies of major trading partners the country's exports tend to rise and imports fall. E. Japan has a large official reserve account because it belongs to a floating exchange rate regime.

C. The "J-curve effect" shows the initial improvement and the eventual depreciation of a country's trade balance following a currency depreciation. Explanation: The "J-curve effect" shows the initial deterioration and the eventual improvement of a country's trade balance following a currency depreciation.

The current account includes __________________ . A. Direct investments, including buying and selling businesses, in foreign markets B. All purchases and sales of international reserve assets such as dollars, foreign exchanges, gold, and special drawing rights (SDRs) C. The export and import of goods and services D. All purchases and sales of assets such as stocks, bonds, bank accounts, trade credit, and real estate

C. The export and import of goods and services

The vast majority of the foreign-exchange reserves held by central banks are denominated in _______. A. Local currencies B. Euro C. US Dollars D. Japanese Yen

C. US Dollars

Currency carry trade involves ________ a currency that has a higher rate of interest and funding the trade by ________ in a currency with a low rate of interest, without any hedging. A. selling; lending B. selling; borrowing C. buying; borrowing D. buying; lending

C. buying; borrowing

When the U.S. exports more than it imports from the rest of the world, the ____________ for US dollar increases, leading to U.S. dollar ______________________. A. supply; appreciation B. supply; depreciation C. demand; appreciation D. demand; depreciation

C. demand; appreciation

Fisher Effect states that an __________ in the expected inflation rate in a country will cause a proportionate ____________ in the nominal interest rate in the country. A. decrease; increase B. decrease; decrease C. increase; increase D. increase; decrease

C. increase; increase

(Step 2 of CIA) Assume you have good credit and can borrow either $1,000,000 or €800,000 for one year. The one-year interest rate in the U.S. is i$ = 3% and in the euro zone the one-year interest rate is i€ = 2%. The spot exchange rate is $1.25 = €1.00 and the one-year forward exchange rate is $1.24 = €1.00. If you determine that there is an arbitrage opportunity, to execute the coverage interest arbitrage you should _______ and ________ forward. A. borrow in the United States; sell euro B. borrow in the euro zone; buy euro C. lend in the United States; buy euro D. lend in the euro zone; sell euro

C. lend in the United States; buy euro

Suppose you observe the following exchange rates: €1 = $1.25; £1 = $2.00. Calculate the euro-pound (i.e., euro priced in pounds) exchange rate. A. €1.00 = £2.50 B. €1.00 = £1.60 C. €1.00 = £0.625 D. €2.50 = £1.00

C. €1.00 = £0.625

The $/CD spot bid-ask rates are $0.7540-$0.7556. The 3-month forward points are 12-15. Determine the $/CD 3-month forward bid-ask rates. A. $0.7660-$0.7706 B. $0.7528-$0.7541 C. $0.7525-$0.7544 D. $0.7552-$0.7571

D. $0.7552-$0.7571 Explanation: 0.7540+0.0012=0.7552, 0.7556+0.0015=0.7571

Suppose you observe a spot exchange rate of $1.50/€1. If interest rates are 5% APR in the U.S. and 3% APR in the euro zone, what is the no-arbitrage 1-year forward rate? A. €1.5291/$1 B. €1.4714/$1 C. €1.372/$1 D. $1.5291/€1 E. $1.4714/€1

D. $1.5291/€1 Explanation: $1.50*(1+0.05/1+0.03)=$1.5291

Based on the following information, what is the BID price for AUD-Yen (i.e., AUD is the base currency, and Yen is the quote currency)? American Terms USD Bank Quotations Bid Ask Yen (JPY) 0.0085 0.0088 Aus (AUD) 0.7490 0.7945 A. AUD$1.00 = ¥0.0107 B. AUD$1.00 = ¥0.0111 C. AUD$1.00 = ¥93.4706 D. AUD$1.00 = ¥90.2273

D. AUD$1.00 = ¥90.2273 Explanation: BID price for AUD-Yen = (Direct bid AUD-USD) * (Indirect bid USD-Yen) = (0.794)*(1/0.0088)=90.2273 Indirect bid is the reciprocal of direct ask: Indirect bid USD-Yen = 1/ direct ask Yen-USD = 1/0.0088

PPP is the manifestation of the law of one price applied to a standard commodity basket. It will hold only if _______________. A. the composition of the consumption basket is the same across countries B. There is no international barrier and consumers can freely and costly shift their demand to wherever prices are lower. C. the prices of the constituent commodities are equalized across countries in a given currency D. All the statements are correct

D. All the statements are correct

The FX spot market _________. A. Involves the sale of futures, forwards, and options on foreign exchange B. Takes place only on the floor of a physical exchange C. Is only quoted in U.S. dollars D. Involves the almost-immediate purchase or sale of foreign exchange E. Is only quoted in direct quote

D. Involves the almost-immediate purchase or sale of foreign exchange

Which of the following statement is CORRECT? A. The United States has the largest share of global foreign exchange trades. B. Brokers make money by earnings the bid-ask spread. C. When you hear on the news that Euro-Pound is going down, Pound is getting weaker. D. Most foreign exchange transactions are for interbank trades between international banks or nonbank dealers.

D. Most foreign exchange transactions are for interbank trades between international banks or nonbank dealers.

The foreign exchange market closes ________ . A. 4:00 p.m. GMT (London time) B. 4:00 p.m. (Tokyo time) C. 4:00 p.m. EST (New York time) D. Never

D. Never

Which of the following will NOT contribute to the appreciation of a currency? A. Low Inflation B. Political Stability C. Persistent Trade Surplus D. Rampant Corruption E. Social Stability

D. Rampant Corruption

Which of the following markets has the largest trading volume? A. The Bond Market B. The Equity Market C. The Swap Market D. The Foreign Exchange Market E. The Futures Market

D. The Foreign Exchange Market

In a pure flexible exchange rate regime, a country's central banks will not need to maintain official reserves. True False

True

Which of the following statement is FALSE? A. The Fisher Effect suggests that nominal interest rates of two countries differ because of the difference in expected inflation between the two countries. B. The International Fisher Effect (IFE) states that the difference between the nominal interest rates in two countries is directly proportional to the changes in the exchange rate of their currencies at any given time. C. The International Fisher Effect (IFE) theory suggests that currencies with high interest rates will have high expected inflation (due to the Fisher effect) and the relatively high inflation will cause the currencies to depreciate (due to the relative PPP effect). D. The International Fisher Effect (IFE) theory suggests that foreign investors who attempt to capitalize on relatively high U.S. interest rates will be adversely affected by USD appreciation. E. Other country characteristics besides inflation (e.g., income levels, government controls) can affect exchange rate movements. Even if the expected inflation derived from the Fisher Effect properly reflects the actual inflation rate over the period, relying solely on inflation to forecast the future exchange rate is subject to errors.

D. The International Fisher Effect (IFE) theory suggests that foreign investors who attempt to capitalize on relatively high U.S. interest rates will be adversely affected by USD appreciation. Explanation: The International Fisher Effect (IFE) theory suggests that foreign investors who attempt to capitalize on relatively high U.S. interest rates will be adversely affected by USD depreciation.

Which of the following statements is CORRECT? A. The Big-Mac index was invented by The Economist in 1986 as a lighthearted guide to whether currencies are at their "correct" level. It is based on the relative purchasing-power parity. B. An appreciation of high-yielding currencies is the main risk in carry trade. C. Currency risk in carry trades is typically hedged. D. The absolute purchasing power parity predicts that price levels will be the same across countries.

D. The absolute purchasing power parity predicts that price levels will be the same across countries. Explanation: The Big-Mac index was invented by The Economist in 1986 as a lighthearted guide to whether currencies are at their "correct" level. It is based on the absolute purchasing-power parity.

Some commodities never enter into international trade. Examples include ____________. A. clothes B. soybeans C. oil D. haircut E. auto

D. haircut

Generally unfavorable evidence on purchasing power parity (PPP) suggests that _______________. A. the global foreign exchange market is very efficient B. the range of goods and services considered for price level comparison across countries is not wide enough C. Countries should adjust GDP for the PPP value to make comparison of standards of living between countries more meaningful D. transportation costs can make it difficult to directly compare commodity prices E. Efficiency of the internal market of large multinational corporations fail to overcome any barriers to international commodity market

D. transportation costs can make it difficult to directly compare commodity prices

For a USD/CHF FX spot rate of 1.2389 - 1.2391, _________ is the SMALL figure. A. 89 B. 91 C. 1.23 D. 1.2389 E. 89 and 91

E. 89 and 91

What major dimension sets apart international finance from domestic finance? A. Foreign Exchange Risks B. Political Risks C. Expanded Opportunity Set D. Market Imperfections E. All Choice Are Correct

E. All Choices Are Correct

Which of the following statements is FALSE? A. Interest rate parity (IRP) is a theory in which the interest rate differential between two countries is equal to the differential between the forward exchange rate and the spot exchange rate. B. The basic premise of interest rate parity (IRP) is that hedged returns from investing in different currencies should be the same, regardless of the level of their interest rates. C. The interest rate parity is said to be covered when the no-arbitrage condition could be satisfied through the use of forward contracts in an attempt to hedge against foreign exchange risk. D. The interest rate parity (IRP) is the fundamental equation that governs the relationship between interest rates and currency exchange rates. E. For interest rate parity (IRP) to hold, a country with a higher interest rate should expect to see its currency appreciate in the future.

E. For interest rate parity (IRP) to hold, a country with a higher interest rate should expect to see its currency appreciate in the future.

Which of the following statement in CORRECT? A. The interest rate parity is said to be covered when the no-arbitrage condition could be satisfied through the use of swap contracts in an attempt to hedge against foreign exchange risk. B. Parity conditions are equilibrium conditions and hold in both short-term and long-term time periods. C. Interest Rate Parity (IRP) is best defined as when the central bank of a country brings its domestic interest rate in line with its major trading partners. D. The International Fisher Effect (IFE) states that the currency of the country with a lower nominal interest rate is expected to depreciate against the currency of the country with the lower nominal interest rate. E. Forward parity states that any forward premium or discount is equal to the expected change in the exchange rate.

E. Forward parity states that any forward premium or discount is equal to the expected change in the exchange rate.

A higher level of exports from the United States to the United Kingdom decreases the supply of the British pounds. True False

False

Retail traders buy as the bid price and sell at the ask price, while the market makers buy at the ask price and sell at the bid price. True False

False

The Forex trades are mostly retail trades. True False

False

A stronger dollar tends to raise commodity prices because commodities such as oil and industrial metals like coper are denominated in USD. True False

False Explanation: Commodities—such as oil and industrial metals like copper—are denominated in the U.S. dollars. A stronger dollar tends to decrease commodity prices because a stronger dollar make those commodities more expensive for other currency holders.

A direct currency quote is a currency pair in which the domestic currency is the quoted currency (i.e., quoted in own currency) True False

True

Carry trade is built upon the principal of Covered Interest Arbitrage with one important modification-no hedging True False

True

Cross-currency rate refers to an exchange rate between a currency pair where neither currency is the US dollar. True False

True

Futures can be viewed as standardized forwards. True False

True