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Home work-1
School of Management Name of the faculty member: ATIN GARG Course No: MGT624 Course Title: Forex Management Class: BBA-MBA Semester: 9th Section: SPQ35 Batch: 2007-12 Max. Marks: 10 Date of Allotment: 1/SEP/2011 Date of Submission: 10/SEP/2011

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Roll No All student s

Topi c No.

Objectives of Academic Activity The objectives of this academic activity is mainly focused to:a) Develop Analytical Skills in students

Topic ANNEXURE 1 ATTACHED

Model* This will be an Individual assignment. Each student will be required to submit his/her assignment after taking few important actions into account: a) Assignment must be hand written only. b) Assignments must be without any file cover but should be including cover page showing assignment title, assignment number, students name, section, roll number and date of submission etc. c) Students will be credited with marks for the quality,

b) Develop ability
to understand the implications of partnership law.

accuracy, relevance and clarity about topic of assignment.

d) Students found guilty

of copying, late submission and negligence in order to comply with assignment task would be punished with Zero marks. e) Evaluation criteria a) Written Assignment-5 marks b) Viva-5 marks

Date:

Sig. of COS-F

Sig. of course coordinators

Annexure-1

1. Do you really think the U.S. eventually will have to turn, hat-in-hand to the IMF for aid? 2. By some of the measures you use, China already is a larger economy than the U.S. But havent you picked economic statistics that play to Chinas advantage? For example relying on purchasing power parity to measure GDP.

3. What is the Big Mac index? 4. What according to you is the relationship between interest rate parity and currency rates? Elaborate.

that is used to measure the purchasing power parity (PPP) between two currencies , using the price of a Big Mac as the benchmark and provides a test of the extent to which market exchange rates result in goods costing the same in different countries.

For example, if the price of a Big Mac is $4.00 in the U.S. as compared to 2.5 pounds sterling in Britain, we would expect that the exchange rate would be 1.60 (4/2.5 = 1.60). If the exchange rate of dollars to pounds is any greater, the Big Mac Index would state that the pound was over-valued, any lower and it would be under-valued.

ust Admit, I did not directly know this answer here but after some quick research I found the following . "If a country raises its interest rates, its currency prices will strengthen because the higher interest rates attract more foreign investors. This answer sounds exactly logical as I think about it, yet, in economics books, under the uncovered interest rate parity model, a country with a higher interest rate should expect its currency to depreciate. I would agree with this proposition in the long run

an expensive currency will hurt exports... but in the very short run... let's say once the CB declaires a rise in interest rate, by how much should one expect the currency to appreciate? is there any formula for this? " Interest rate parity According to interest rate parity the difference between the (risk free) interest rates paid on two currencies should be equal to the differences between the spot and forward rates. If interest rate parity is violated, then an arbitrage opportunity exists. The simplest example of this is what would happen if the forward rate was the same as the spot rate but the interest rates were different, then investors would: 1.borrow in the currency with the lower rate 2.convert the cash at spot rates 3.enter into a forward contract to convert the cash plus the expected interest at the same rate 4.invest the money at the higher rate 5.convert back through the forward contract 6.repay the principal and the interest, knowing the latter will be less than the interest received. Therefore, we can expect interest rate parity to apply. However, there is evidence of forward rate bias. Covered interest rate parity Assuming the arbitrage opportunity described above does not exist, then the relationship for US dollars and pounds sterling is: (1 + r)/(1+r$) = (/$f)/(/$s) where r is the sterling interest rate (till the date of the forward), r$ is the dollar interest rate, /$f is the forward sterling to dollar rate, /$s is the spot sterling to dollar rate Unless interest rates are very high or the period considered is long, this is a very good approximation: r = r$ + f where f is the forward premium: (/$f)/(/$s) -1 The above relationship is derived from assuming that covered interest arbitrage opportunities should not last, and is therefore called covered interest rate parity. Uncovered interest rate parity Assuming uncovered interest arbitrage leads us to a slightly different relationship: r = r2 + E[S] where E[S] is the expected change is exchange rates.

This is called uncovered interest rate parity. As the forward rate will be the market expectation of the change in rates, this is equivalent to covered interest rate parity - unless one is speculating on market expectations being wrong. The evidence on uncovered interest rate parity is mixed.
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