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Chase Econometrics has just published projected inflation rates for the United States and Euro-zone for the next five years. U.S. inflation is expected to be 2% per year, and Euro-zone inflation is expected to be 3.5% per year. If the current exchange rate is 1.4500 $ per €, what should the expected PPP implied €/$ exchange rates be five years from now?





According to the international Fisher effect, if U.S. investors expect a 5% rate of domestic inflation over one year, and a 2% rate of inflation in Japan, and require a 3% real return on investments over one year, the nominal interest rate on one-year U.S. Treasury securities would be:






According to the Big Mac Index, the implied PPP exchange rate is Mexican peso 8.50/$1 but the actual exchange rate is peso10.80/$1. Thus, at current exchange rates the peso appears to be ________ by ________.

overvalued; approximately 21%

overvalued; approximately 27%

undervalued; approximately 21%

undervalued; approximately 27%

Assume a nominal interest rate on one-year U.S. Treasury Bills of 4.60% and a real rate of interest of 2.50%. Using the Fisher Effect Equation, what is the expected rate of inflation in the U.S. over the next year?





Suppose that the current spot exchange rate is 6.25 Swedish Krona per $ and the three-month forward exchange rate is 6.28 SEK per $. The three-month interest rate is 5.6% per annum in the U.S. and 8.8% per annum in Sweden. Assume that you can borrow up USto $1,000,000 or SEK 6,250,000. Can you generate arbitrage profits? Show your profits both in USD and SEK terms.

$ 4,250

SEK 4,250

$ 3,118

SEK 3,118

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