Assume the following bid and ask rates of the pound for two banks as shown below:
$$\begin{array} { l l l }
& \underline { \text { Bid } } & \underline { \text { Ask } } \
\text { Bank C } & \$ 1.61 & \$ 1.63 \
\text { Bank D } & \$ 1.58 & \$ 1.60
\end{array}$$
As locational arbitrage occurs:
A) the bid rate for pounds at Bank C will increase; the ask rate for pounds at Bank D will increase.
B) the bid rate for pounds at Bank C will increase; the ask rate for pounds at Bank D will decrease.
C) the bid rate for pounds at Bank C will decrease; the ask rate for pounds at Bank D will decrease.
D) the bid rate for pounds at Bank C will decrease; the ask rate for pounds at Bank D will increase.

Question

Assume the following bid and ask rates of the pound for two banks as shown below:
$$\begin{array} { l l l } 
& \underline { \text { Bid } } & \underline { \text { Ask } } \
\text { Bank C } & \$ 1.61 & \$ 1.63 \
\text { Bank D } & \$ 1.58 & \$ 1.60
\end{array}$$
As locational arbitrage occurs:
A) the bid rate for pounds at Bank C will increase; the ask rate for pounds at Bank D will increase.
B) the bid rate for pounds at Bank C will increase; the ask rate for pounds at Bank D will decrease.
C) the bid rate for pounds at Bank C will decrease; the ask rate for pounds at Bank D will decrease.
D) the bid rate for pounds at Bank C will decrease; the ask rate for pounds at Bank D will increase.

Quizplus · Accepted Answer

Locational arbitrage is a process of buying and selling a currency from different locations to take advantage of different rates. In this case, if an investor buys pounds for \$1.60 from Bank D and sells it to Bank C for \$1.63, they can make a profit of(\$1.63 - \$1.60) = \$0.03 per pound. As a result, the demand for pounds would increase at Bank D (because of buying pounds) and the supply of pounds would increase at Bank C (because of selling pounds), which will lead to a decrease in the bid rate for pounds at Bank C and an increase in the ask rate for pounds at Bank D. Therefore, the correct answer is D.

Assume the Following Bid and Ask Rates of the Pound