Exchange rate and expected future level

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Reference no: EM133133658

Suppose the US. interest rate and the ]apan's interest rate are the same, 3% per year.

a. What is the relation between the current $/¥ exchange rate and its expected future level?

b. The US. interest rate rises to 5% per year; but suppose the expected future $/¥ exchange rate, given as 0.01 USDs/yen, remains constant. If Japan's interest rate remains constant at 3%, what is the new equilibrium $/¥ exchange rate? Illustrate this situation on the DR-F R diagram.

c. With the new US interest rate, now new economic developments cause the expected future exchange rate to change to 0.012. What does this new expected exchange rate imply about the USD vis-e'1-vis the yen? Calculate the new equilibrium exchange rate. Illustrate this situation on the DR-FR diagram.

Reference no: EM133133658

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