Answer to Question #151953 in Finance for Gaayatheri

Question

a. THE U.S. ECONOMY IS GROWING FASTER THAN THAT OF JAPAN. THE FASTER GROWTH RATE IN THE U.S. SHOULD CAUSE THE VALUE OF THE DOLLAR TO DEPRECIATE AGAINST THE YEN, EVERYTHING ELSE BEING EQUAL. EXPLAIN. (20 MARKS)

b. A ONE-YEAR JAPANESE SECURITY IS CURRENTLY YIELDING 5%. FURTHERMORE, IT IS EXPECTED THAT THE EXCHANGE RATE BETWEEN THE DOLLAR AND THE YEN IS CHANGING FROM 98 YEN TO THE DOLLAR, TO 95 YEN TO THE DOLLAR OVER THE NEXT YEAR. TO INVEST IN U.S. SECURITY RATHER THAN JAPANESE SECURITY, YOU WOULD NEED A RETURN AT LEAST EQUAL TO WHAT VALUE? (20 MARKS)

c. WHAT DOES THE NOMINAL INTEREST RATE PARITY STATE? WOULD THE CONDITION BE VIOLATED IF NOMINAL INTEREST RATES IN THE DOMESTIC AND FOREIGN COUNTRY WERE DIFFERENT ON TWO SECURITIES THAT WERE IDENTICAL IN ALL ASPECTS? A CURRENCY PREMIUM WOULD LEAD TO A MODIFICATION OF THE NOMINAL INTEREST RATE PARITY CONDITION. WHY? (20 MARKS)

Answer 1

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