When arbitrage occurs across countries with a flexible exchange rate and when the bonds in each country are identical and there are no barriers to capital flows then the:
A) interest rates on the bonds will be identical.
B) expected return on the bonds will be identical.
C) inflation rates in each country will be identical.
D) prices of the bonds will be identical.

Question

Quizplus · Accepted Answer

Arbitrage ensures that the expected return on identical bonds across countries will be the same, as investors buy and sell bonds to exploit differences in returns, adjusting for exchange rate expectations. This does not necessarily mean that interest rates, inflation rates, or bond prices will be identical, as these can be influenced by a variety of other factors specific to each country.

When Arbitrage Occurs Across Countries with a Flexible Exchange Rate