Question: Suppose that the pound is pegged to gold at £25 per ounce and the dollar is pegged to gold at $38 per ounce. This implies an exchange rate of $1.52 per pound.

22 Jun 2023,8:49 PM

 

(A) Numerical Questions (Total marks: 30 marks)

Answer all 4 questions. Show all your calculations, not just the answer.

 

1. Suppose that the pound is pegged to gold at £25 per ounce and the dollar is pegged to gold at $38 per ounce. This implies an exchange rate of $1.52 per pound. If the current market exchange rate is $1.65 per pound, how would you take advantage of this situation if you have $350 available for investment?                                        (5 marks)

 

 

2. The $/£ spot exchange rate is $1.50/£ and the 120-day forward exchange rate is $1.28/£.  Find the forward premium or discount.                                                            (5 marks)

 

3. Suppose you have $50,000 to invest as a US-based investor.  The dollar-euro exchange rate is quoted as $1.15 = €1.00 and the dollar-pound exchange rate is quoted at $1.23 = £1.00.  If a bank quotes you a cross rate of £1.00 = €1.19, how much triangular arbitrage profit can you make?                                                                                        (10 marks)

 

4. Look at the table below and answer all the questions.  Show fully your calculations. The table shows the exchange rates of foreign currencies per unit of UK pound sterling. 

 

(a) Suppose you wish to exchange £1750 into US$, how much US$ will you get from the money exchanger based on the rates they offered as shown in the table below?

                                                                                                                           (2 marks)

 

(b) Suppose you have received 350 Australian dollar gift money from your aunt and want to exchange them back into UK£.  How much £ will you get from the money exchanger based on the rates they offer as shown in the table below?            (2 marks)

 

 

(c) Calculate the Chinese yuan to Australian Dollar cross rate, using the ‘We sell’ rate from the table below.                                                                                       (3 marks)

 

 

(d) Calculate the bid-ask spread between the £ and Yen’s buying and selling rates.

                                                                                                                          (3 marks)

 

 

 

(B) Multiple Choice questions (10 marks @ 1 mark each)

(Answer all questions in this part.  Choose only one answer for each question)

1. Assume that a country is on the gold standard. In order to support unrestricted convertibility into gold, banknotes need to be backed by a gold reserve of some minimum stated ratio. In addition,

 

1. 1. the domestic money stock should rise and fall as gold flows in and out of the country.
   2. the central bank can control the money supply by buying or selling the foreign currencies.
   3. Both a) and b)

 

2. Which of the followings are strengths of the NPV method of analysis?

 

I.   the consideration of every cash flow related to a project

II.  the analysis is based on cash flows

III. the profits and losses expected over the life of a project are considered

IV. time value of money is considered

2. 1. I and II only
   2. II and IV only
   3. I, III and IV only
   4. I, II and IV only
3. Under a purely flexible exchange rate system

 

1. 1. supply and demand set the exchange rates.
   2. governments can set the exchange rate by buying or selling reserves.
   3. governments can set exchange rates with fiscal policy.
   4. answers b) and c) are correct.

 

4. A depreciation will begin to improve the trade balance immediately if
   1. imports and exports are responsive to the exchange rate changes.
   2. imports and exports are inelastic to the exchange rate changes.
   3. consumers exhibit brand loyalty and price inelasticity.
   4. b) and c)

 

5. Generally speaking, any transaction that results in a receipt from foreigners

 

1. 1. will be recorded as a debit, with a negative sign, in the U.S. balance of payments.
   2. will be recorded as a debit, with a positive sign, in the U.S. balance of payments.
   3. will be recorded as a credit, with a negative sign, in the U.S. balance of payments.
   4. will be recorded as a credit, with a positive sign, in the U.S. balance of payments.

 

6. If the United States imports more than it exports, then

 

1. 1. the supply of dollars is likely to exceed the demand in the foreign exchange market, ceteris paribus.
   2. one can infer that the U.S. dollar would be under pressure to depreciate against other currencies.
   3. a) and b)
   4. None of the above

 

7. The Spot Market

 

1. 1. involves the almost-immediate purchase or sale of foreign exchange.
   2. involves the sale of futures, forwards, and options on foreign exchange.
   3. takes place only on the floor of a physical exchange.
   4. all of the above.

 

8. Advantages of a flexible exchange rates include which of the following?

 

1. 1. 1. 1. National policy autonomy 
         2. Easier external adjustments
         3. The government can use monetary and fiscal policies to pursue whatever economic goals it chooses.
         4. All of the above

 

9. The forward price

 

1. 1. may be higher than the spot price.
   2. may be the same as the spot price.
   3. may be less than the spot price.
   4. all of the above

 

 

 

10. The forward market

 

1. 1. involves contracting today for the future purchase or sale of foreign exchange at the spot rate that will prevail at the maturity of the contract.
   2. involves contracting today for the future purchase of sale of foreign exchange at a price agreed upon today.
   3. involves contracting today for the right but not obligation to the future purchase of sale of foreign exchange at a price agreed upon today.
   4. none of the above

 

 

(C) Short answer questions (Total marks: 60 marks)

(Answer all 4 questions in this section using full sentences with clear explanations) 

Graph 1: Argentina peso per US$ (Apr 2016-Apr 2021)

 

Graph 2: Argentina peso per US$ (Apr 2016 – Apr 2021)

 

 

1. Use the information shown in the graphs above to answer parts (a) to (c).  The graphs show the exchange rates between the Argentina peso and the US dollar.                                                                                      

 

(a) Assume that Argentina is the home country and the US is the overseas country in terms of their trade relation. What is the direct quote between Argentina peso and the US$ on the 2^nd of April 2021?                                                                     (5 mark)

 

                                                                                                                          

(b) Calculate the percentage change in the value of Argentina peso over the 5-year period using the two rates shown on the graphs.  Has the peso appreciated or depreciated?                                                                                                       (5 marks)

 

                                                                                     

(c) Explain how Argentina’s inflation rate and credit rating would have affected the movement of its peso’s exchange rate against the US$ over the past 5 years.  

                                                                                                                          (5 marks)               

                                                        

1. The graph below shows the exchange rate between Nicaraguan Cordoba and US$ in 2021.

 

 

a.  How has the exchange rate changed over this one-year period?  Use concrete figures to substantiate the claim by working out the % change in exchange rate.           (5 marks)

 

b.  Explain how you can tell what exchange rate system Nicaraguan is adopting by looking the graph.                                                                                                                (5 marks)

 

c.  What are the main characteristics of this exchange rate system adopted by Nicaragua?      

                                                                                                                           (5 marks)

 

 

 

3. The table below shows the UK’s interest rates and exchange rates data over two different periods. 

 

 

1. What general relationship between the UK’s interest rates and exchange rates can be observed from the table above?                                                 (5 marks)

 

 

2. Explain why UK’s interest rates would impact on its exchange rates against the US$ in such a way.                                                                                (5 marks)

 

 

3. Apart from interest rates and inflation rates, explain one more economic factor that might cause a country’s exchange rate to change.                          (5 marks)    

 

                                      

 

4. Use Toyota as an example to explain the meaning of economic risk in foreign exchange and how it could impact on the Multinational company’s business. 

                                                                                                                         (15 marks)