· Be sure to write down all steps for your answer. ___
· Penalties for late lodgement:___A late assignment, that is
assignments submitted after the due date and where no extension
has been granted, will be accepted, but in fairness to students
who present their work on time, a penalty will be levied. A
penalty of 10% of the total mark allocated to this assessment will
be deducted for each day that it is late. Please note that this policy
applies to this unit only; other lecturers may take a different
1. Assume your company has a contract to purchase 100
computers from a Korean company. The payment is due on
receipt of the shipment and must be delivered in Korea on 1
December 2016. On 1 July 2016, when you are arranging the
contract, the computers are priced at 500,000 won each. On 1
July 2016, the spot exchange rate is AU$1 in exchange for 1,250
won (KRW). Assume that the 6-month interest rate in Korea is
3% and the rate in Australia is 5%. Assume that the covered
interest parity holds. ___
(A) Calculate the Australian dollar price (on 1 July 2016) of
one unit of Korean currency (rounding to 4 decimal places).
[5 marks] ___
(B) What is the total price of the computers in Australian
dollars on 1 July 2016 (rounding to 2 decimal places)?
[5 marks] ___
(C) Calculate the 6-month forward exchange rate, FKRW/$, under
the covered interest parity (rounding to 2 decimal places).
Note that the forward rate is defined as the Korean won per
Hint: Use the CIP equation. [7 marks] ___
(D) What would you advise your firm to do to avoid a loss on the deal
if Korean won costs 5% more compared to the Australian dollar (the
expected depreciation rate of Australian dollar against Korean won is
5%) when payment is due on 1 December 2016? The answer should
have the exact numbers (rounding up to 2 decimal places) that you
would tell your CEO. ___
Hint: You want to get rid of the exchange rate risks. [12 marks] ___
2. Suppose a basket of goods costs 210,000 Mexican pesos in Mexico,
while the same basket costs $16,800 in Australia. The nominal
exchange rate is currently at E$/Peso = 0.10. Assume that the prices in
two countries do not change at all over time (the inflation rates in two
countries are always zero). Assume that the uncovered interest parity
(A) Calculate the real exchange rate, q$/Peso.
Hint: Use the real exchange rate definition. [5 marks]
(B) Under the purchasing power parity (PPP), what will be the nominal
exchange rate in the long run?
Hint: Use the real exchange rate definition and apply the PPP. [5
(C) Is the Australian dollar under or overvalued against Mexican pesos
at the moment?
Hint: Check the definition of the under/over valuation of a currency. [5
(D) The nominal exchange rate in 1 year is expected to become Ee$/Peso =
0.097. Using the definition of the real exchange rate with zero inflation
rates in two countries, calculate the expected real exchange rate in 1
Hint: Check the definition of the real exchange rate in growth rates and
apply the inflation rates given. [10 marks]
(E) The exchange rate in 1 year is expected to be 0.097, Ee$/Peso = 0.097
as in (D), the current 1- year interest rate in Australia is 2%, and the 1-
year forward rate is F$/Peso = 0.10. If you can borrow $1 million from a
bank in Australia or 10 million pesos from a bank in Mexico, explain
how you can make money without any exchange rate risks. The answer
should have the specific amount of profits in Australian dollars in 1
Hint: Check the UIP equation and find the interest rate in Mexico.
Then, apply the way to make
money when the CIP does not hold.