Forecasting Based on the International Fisher Effect
Response to the following problem:
Purdue Co. (based in the United States) exports cable wire to Australian manufacturers. It invoices its product in U.S. dollars and will not change its price over the next year. There is intense competition between Purdue and the local cable wire producers based in Australia. Purdue's competitors invoice their products in Australian dollars and will not be changing their prices over the next year. The annualized risk-free interest rate is presently 8 percent in the United States versus 3 percent in Australia. Today the spot rate of the Australian dollar is $.55. Purdue Co. uses this spot rate as a forecast of the future exchange rate of the Australian dollar. Purdue expects that revenue from its cable wire exports to Australia will be about $2 million over the next year. If Purdue decides to use the international Fisher effect rather than the spot rate to forecast the exchange rate of the Australian dollar over the next year, will its expected revenue from its exports be higher, lower, or unaffected? Explain.