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You are the manager at a U.S based firm that exports parts to The U.K. Your boss asked you to generate a forecast on the British Pound for the next year to help them complete the capital budgeting report. Assume that the British Pound is a free floating currency. Suppose that you found the following information from the WSJ and the IMF web sites.
Spot rate of British Pound = $1.59
Yield on 10 year U.K Government Bond = 2.2%
Yield on 10 year U.S. Treasury bond = 2.3%
-Based on the information that you found and assuming that you believe the International Fisher effect holds (IFE), what will be the value of the British Pound in one year? What is the reasoning behind your answer? Explain the forces that cause the exchange rate to change in the direction you predicted.
-Given your forecast, how should your firm's cash flows be affected by this change in the exchange rate? Why? Explain.
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