Assignment - Be sure to write down all steps for your answers to get full marks.
Download "Assignment_2_Data.xlsx" Data File. The file has the exchange rates for the U.S. dollars against one U.K. pound, the price levels in the U.S. and the U.K. With the data, answer all of the following questions. Note that the exchange rates are in US$1 per £1. Treat the U.S. as the home country.
1. Consider 1 September 1971.
a. According to the purchasing power parity (PPP), what should be the exchange rate between the US dollar and the UK pound, E*$/£? (round to 3 decimal places)
b. Calculate the real exchange rate between the U.S. and the U.K, q$/£. (round to 3 decimal places)
c. According to the speed of convergence, the deviation from the PPP will shrink by 15% in one year. Calculate expected real exchange rate in 1 year, that is, the expected real exchange rate on 1 September 1972. qe$/£,1-year. (round to 3 decimal places)
d. The inflation rates in the U.S. had been 2.5%, while the U.K. inflation rate had been 6.2% per year. Assume that these inflation rates will remain the same all the time. Based on your answer in (b), (c), the speed of convergence together with the inflation rates in the two countries, calculate the expected exchange rate on 1 September 1972, Ee$/£,1-year. (round to 3 decimal places)
2. Consider 1 March 2018. Assume that the U.S. maintains the inflation rate at 2.00% per year, and the U.K. maintains the inflation rate at 2.25% per year all the time. Note that over 4 years, the overall inflation rates from 1 March 2018 to 1 March 2022 in the U.S. and the U.K. will be 8.00% and 9.00%, respectively.
a. Calculate the real exchange rate between the U.S. and the U.K, q$/£, on 1 March 2018. (round to 3 decimal places)
b. According to the half-life of the deviation from the PPP, the deviation from the PPP will shrink by 50% in 4 years. Based on the half-life of the deviation from PPP together with the inflation rates in the two countries, calculate expected exchange rate in 4 years, that is, the expected exchange rate on 1 March 2022. Ee$/£,4-year. (round to 3 decimal places)
Attachment:- Assignment Files.rar