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Name ___________________________
Homework #1
ELCBUS 463 International Finance and Trade
Fall 2017
Each part of a question is worth one point (30 points total).
1. How does each of these affect the US current account?
a. You pay interest on a French government bond.
b. You sell a Rolex watch on eBay to a person in China.
2. Explain why a stronger dollar could cause the US current account deficit to
increase.
3. Give an example using a direct quotation of the exchange rate of a weakening of
the Canadian dollar relative to the US dollar.
4. Mexico’s interest rates have generally been higher than US interest rates. Yet the
Mexican peso’s value has declined against the dollar over most years. What is the
most likely cause?
5. Today you notice that $1 = 3 Argentine pesos and 1 Argentine peso = .50
Canadian dollars. You need to purchase 100,000 Canadian dollars with US
dollars. How many US dollars will you need?
6. If the expected return on dollar assets is less than that on British pound assets,
a. What would be the major effect(s) in the market for loanable funds in the
UK? Why?
b. Graphically illustrate the effect on the equilibrium British interest rate.
7. US Bank has purchased a 7 million one-year Canadian dollar loan that pays 8.5%
interest annually. The spot rate of U.S. dollars for Canadian dollars is 0.70. It has
funded this loan by accepting a Euro-denominated deposit for the equivalent
amount and maturity at an annual rate of 7%. The current spot rate of U.S. dollars
for Euros is 1.25.
a. What is the loan amount in dollars?
b. What is the deposit amount in Euros?
c. What is the interest income earned in US dollars on this one-year
transaction if the spot rate of U.S. dollars for Canadian dollars and U.S.
dollars for Euros at the end of the year are 0.67 and 1.30, respectively?
d. What is the interest expense in dollars?
8. Assume the Japanese government relaxes its controls on imports from the US.
a. What would be the effect(s) in the market for Japanese yen (relative to the
US dollar)?
Increase in demand for Japanese yen
Decrease in demand for Japanese yen
Increase in supply of Japanese yen
Decrease in supply of Japanese yen
Why?
b. Graphically illustrate the effect on the equilibrium exchange rate (dollars
per yen).
9. Suppose the European central bank sells US dollars for euros in the FX market
(direct FX intervention).
a. What would be the effect(s) in the market for euros (relative to the US
dollar)?
Increase in demand for euros
Decrease in demand for euros
Increase in supply of euros
Decrease in supply of euros
Why?
b. Graphically illustrate the effect on the equilibrium exchange rate (dollars
per euro).
10. Suppose the exit of Great Britain from the European Union (“Brexit”) causes a
reduction in confidence in the euro.
a. What would be the effect(s) on the market for US dollars (relative to
euros)?
i. Increase in demand for US dollars
ii. Decrease in demand for US dollars
iii. Increase in supply of US dollars
iv. Decrease in supply of US dollars
Why?
b. Graphically illustrate the effect on the equilibrium exchange rate (dollars
per euro).
11. Suppose that both the spot and the one-year forward exchange rates for the British
pound are $1.70. Suppose also that a bank can borrow or lend dollars at 4%
interest and can borrow or lend pounds at 5% interest.
a. Should the bank buy one million dollars forward (borrowing pounds to do
so) or one million pounds forward (borrowing dollars to do so)?
b. What is the bank’s profit after one year in dollars if it makes the right
choice?
12. Suppose you buy $100,000 worth of euro futures with a forward exchange rate of
$1.10 per euro. If on expiration the spot exchange rate is $1.12, what is your loss
or gain?
13. Suppose you buy a call option on a $100,000 worth of euros with an exercise
price of $1.10 per euro for a premium of $1000. If on expiration the spot
exchange rate is $1.12 per euro, what is your net profit or loss?
14. Suppose you buy a put option on a $100,000 worth of euros with an exercise price
of $1.10 per euro for a premium of $1500. If on expiration the spot exchange rate
is $1.12 per euro, what is your profit or loss?
15. Suppose you expect a coordinated effort by the central banks of the largest
countries to sell Japanese yen in the near future.
a. Should you purchase or sell yen futures today?
b. Should you purchase call or put options on yen today?
16. Suppose you buy a call option on 50,000 Canadian dollars with an exercise price
of $.60 per Canadian dollar for a premium of $3000. What would the spot
exchange rate need to be at the time the option is exercised for you to break even
(zero net profit)?
17. Assume that on November 1, the spot rate of the British pound was a $1.58 and
the price on a December futures contract was $1.59. If the spot rate by November
30 was $1.51, should you have purchased or sold a December futures contract in
pounds on November 1?
18. If a government wanted to reduce the value of its currency relative to the dollar,
a. How could it use direct FX intervention to do so?
b. How could it use indirect FX intervention to do so?
c. How could it use sterilized intervention to do so?
…
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