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Three-month forward exchange rate

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Reference no: EM133068859

A foreign exchange trader obtains the following information for the New Zealand dollar (NZD) and United States dollar (USD):

Spot exchange rate (USD/NZD) 0.6325 Three-month forward exchange rate (USD/NZD) 0.6450 Three-month interest rate in the United States 2% per annum Three-month interest rate in New Zealand 4% per annum

a) Does Covered Interest Parity (CIP) hold?

b) If CIP does not hold, clearly outline the steps you would follow in order to make arbitrage profits in this situation and calculate the profit assuming the trader has access to NZD 1 million or equivalent.

c) Assume that the expected inflation rate in New Zealand over the next three months is 1% (that is the price level is expected to rise by 1% over the next three months). If Purchasing Power Parity (PPP), Uncovered Interest Parity (UIP), and Real Interest Parity (RIP) hold, what would you expect the inflation rate in the United States to be over the next three months?

Reference no: EM133068859

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