Question 1

Assume that U.S. interest rates are 6%, while British interest rates are 7%. If the international Fisher effect holds and is used to determine the future spot rate, the forecast would reflect an expectation of:

Accepted Answer

According to the international Fisher effect, the difference in interest rates between two countries determines the expected change in their exchange rates. In this case, because the British interest rate is higher than the U.S. interest rate, the international Fisher effect suggests that the pound is expected to depreciate against the dollar. Therefore, the answer is B.

Question 2

A forecast of a currency one year in advance is typically more accurate than a forecast one week in advance since the currency reverts to equilibrium over a longer term period.

Accepted Answer

Currency markets are influenced by numerous unpredictable factors, making long-term forecasts generally less accurate than short-term ones.

Question 3

Which of the following is not one of the major reasons for MNCs to forecast exchange rates?

Accepted Answer

Speculating on exchange rate movements is not a major reason for MNCs to forecast exchange rates. The other three options (A, B, and C) are all valid reasons for MNCs to forecast exchange rates.

Question 4

Monson Co., based in the U.S., exports products to Japan denominated in yen. If the forecasted value of the yen is substantially ____ than the forward rate, Monson Co. will likely decide ____ the payments.

Accepted Answer

The answer of Monson Co., based in the U.S., exports...

Question 5

If speculators expect the spot rate of the Canadian dollar in 30 days to be ____ than the 30-day forward rate on Canadian dollars, they will ____ Canadian dollars forward and put ____ pressure on the Canadian dollar forward rate.

Accepted Answer

If speculators expect the future spot rate to be lower than the current forward rate, they will sell Canadian dollars forward, anticipating a profit, which puts downward pressure on the forward rate.

Question 6

In general, any key managerial decision that is based on forecasted exchange rates should rely completely on one forecast rather than alternative exchange rate scenarios.

Accepted Answer

It is risky to rely completely on one forecast for exchange rates. It is always better to consider alternative exchange rate scenarios and their potential impact on the decision being made. This allows for a more comprehensive understanding of potential risks and opportunities.

Question 7

The following regression model was estimated to forecast the percentage change in the Australian Dollar (AUD): AUD_t = a₀ + a₁INTt + a₂INFt _-1 + m_t, Where AUD is the quarterly change in the Australian Dollar, INT is the real interest rate differential in period t between the U.S. and Australia, and INF is the inflation rate differential between the U.S. and Australia in the previous period. Regression results indicate coefficients of a₀ = .001; a₁ = -.8; and a₂ = .5. Assume that INFt _-1 = 4%. However, the interest rate differential is not known at the beginning of period t and must be estimated. You have developed the following probability distribution: $\begin{array}{cc} \text { Probability } & \text { Possible Outcom } \ 20 \% & -3 \% \ 80 \% & -4 \% \end{array}$ There is a 20% probability that the Australian dollar will change by ____, and an 80% probability it will change by ____.

Accepted Answer

SOLUTION:
Probability 20% = .001 + (-.8)(-.03) + (.5)(.04) = 4.5%
Probability 80% = .001 + (-.8)(-.04) + (.5)(.04) = 5.3%

Question 8

Sensitivity analysis allows for all of the following except:

Accepted Answer

Sensitivity analysis focuses on developing a range of possible future values and considering alternative scenarios to account for uncertainty. It does not focus on a single point estimate of future exchange rates, so option B is incorrect. The other options are all valid reasons why sensitivity analysis is important.

Question 9

Leila Corporation used the following regression model to determine if the forecasts over the last ten years were biased: S_t = a₀ + a₁Ft -1+ m_t, Where S_t is the spot rate of the yen in year t and Ft _-1 is the forward rate of the yen in year t - 1. Regression results reveal coefficients of a₀ = 0 and a₁ = .30. Thus, Leila Corporation has reason to believe that its past forecasts have ____ the realized spot rate.

Accepted Answer

The coefficient for the forward rate is positive, indicating that past forecasts have generally underestimated the realized spot rate.

Question 10

The following is not a limitation of technical forecasting:

Accepted Answer

Technical forecasting can be applied to currencies with a continuous trend for short-term forecasts, as it often relies on identifying and following trends.

Question 11

If today's exchange rate reflects any historical trends in Canadian dollar exchange rate movements, but not all relevant public information, then the Canadian dollar market is:

Accepted Answer

If today's exchange rate reflects any historical trends in Canadian dollar exchange rate movements, it means that past prices and patterns have been incorporated into the current price, making the market weak-form efficient. However, since not all relevant public information has been considered, the market cannot be considered semistrong or strong-form efficient.

Question 12

If speculators expect the spot rate of the yen in 60 days to be ____ than the 60-day forward rate on the yen, they will ____ the yen forward and put ____ pressure on the yen's forward rate.

Accepted Answer

If speculators expect the spot rate of the yen in 60 days to be higher than the 60-day forward rate, they will buy the yen forward, anticipating a profit, which puts upward pressure on the yen's forward rate.

Question 13

If the pattern of currency values over time appears random, then technical forecasting is appropriate.

Accepted Answer

Technical forecasting relies on identifying patterns and trends in historical data, so if currency values appear random, it would not be appropriate to use technical forecasting.

Question 14

If graphical points lie above the perfect forecast line, than the forecast overestimated the future value.

Accepted Answer

If graphical points lie above the perfect forecast line, it means the forecast underestimated the future value, not overestimated it.

Question 15

Assume that U.S. interest rate for the next three years is 5%, 6%, and 7% respectively. Also assume that Canadian interest rates for the next three years are 3%, 6%, 9%. The current Canadian spot rate is $.840. What is the approximate three-year forecast of Canadian dollar spot rate if the three-year forward rate is used as a forecast?

Accepted Answer

SOLUTION:
{[(1.05)(1.06)(1.07)]/[(1.03)(1.05)(1.08)]} × $.84 = $.856

Question 16

When a U.S.-based MNC wants to determine whether to establish a subsidiary in a foreign country, it will always accept that project if the foreign currency is expected to appreciate.

Accepted Answer

When a U.S.-based MNC considers establishing a subsidiary in a foreign country, there are many factors to consider, including political and economic stability, market demand, labor costs, tax laws, and currency exchange rates. While a foreign currency's appreciation may make the establishment of a subsidiary more attractive, it is not the only consideration. The company would need to evaluate various factors and conduct a thorough analysis to determine the potential success of a new foreign subsidiary.

Question 17

Purchasing power parity is used in:

Accepted Answer

Purchasing power parity is a concept in fundamental forecasting that suggests that the exchange rate between two currencies should adjust to equalize the prices of a basket of goods and services in each country. Therefore, it is not used in technical forecasting or market-based accounting.

Question 18

A regression model was applied to explain movements in the Canadian dollar's value over time. The coefficient for the inflation differential between the U.S. and Canada was -0.2. The coefficient of the interest rate differential between the U.S. and Canada produced a coefficient of 0.8. Thus, the Canadian dollar depreciates when the inflation differential ____ and the interest rate differential ____.

Accepted Answer

According to the given information, the coefficient for the inflation differential is negative (-0.2), which means that when the inflation differential between the U.S. and Canada increases (i.e., when inflation is relatively higher in Canada compared to the U.S.), the Canadian dollar depreciates. The coefficient for the interest rate differential is positive (0.8), which means that when the interest rate differential between the U.S. and Canada decreases (i.e., when interest rates are relatively higher in Canada compared to the U.S.), the Canadian dollar depreciates. Therefore, the best choice is C) increases; decreases.

Question 19

If the foreign exchange market is ____ efficient, then technical analysis is not useful in forecasting exchange rate movements.

Accepted Answer

The answer of If the foreign exchange market is ____...

Question 20

Assume that U.S. annual inflation equals 8%, while Japanese annual inflation equals 5%. If purchasing power parity is used to forecast the future spot rate, the forecast would reflect an expectation of:

Accepted Answer

According to purchasing power parity, the currency of the country with the lower inflation rate (Japan) is expected to appreciate relative to the currency of the country with the higher inflation rate (U.S.).

Quiz 9: Forecasting Exchange Rates