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Question 01

If S t is the spot exchange rate at time t, F t is the one period forward exchange rate, i is the domestic rate of interest and i* is the foreign interest rate. The covered interest parity condition is:

d) Without knowing the risk premium, we do not have enough information.

Question 02

What are the appropriate algebraic signs to make the following a correct statement of the uncovered interest parity condition for a British investor who is interested in holding euro-denominated assets?

Question 03

The inverse relationship between interest rates and bond prices is due to the fact:

a) market makers require a bid-ask spread to offer their services at all.

b) the covered interest parity condition.

c) a bond price represents the present discounted value of the payments agreed upon at the time when the bond was issued.

d) capital markets are not efficient for long-maturity loans.

Question 04

The fundamental valuation of an asset is:

a) 1/i, where i is the nominal interest rate.

b) 1/r, where r is the real interest rate.

c) Tobin's q

d) the present discounted value of expected future earnings.

Question 05

The International Fisher equation states that:

a) domestic inflation rates will tend to equal foreign inflation rates.

b) domestic real interest rates will tend to equal foreign real interest rates.

c) the expected exchange rate depreciation of the domestic currency is equal to the future inflation differential (foreign minus domestic inflation).

d) the difference between the bid-ask spread for an exchange rate is equal to the future inflation differential (foreign minus domestic inflation).

Question 06

To understand the current nominal exchange rate, we need to know all of the following except what?

a) The long-run value of the exchange rate

b) Last period's nominal exchange rate

c) Present and future expected domestic interest rates.

d) Present and future expected foreign interest rates.

Question 07

A speculative bubble is rational as long as:

a) the asset price corresponds to its fundamental value.

b) it levels off at a high Fisher asset price plateau.

c) as long as traders believe that the bubble will continue to grow, validate market expectations, and offer the 'normal' return.

d) prices rise.

Question 08

Consider a two period model with short-run price stickiness but long-run price flexibility. There is an increase in the money supply so the equilibrium condition for the money market shifts from MM to M´M´. The reason that the short-run depreciation of the exchange rate will be larger than (i.e. overshoot) the long-run depreciation of the exchange rate is:

a) in the long run money demand will not need to increase as much since the increase in the price level in the long-run will reduce the growth of real money.

b) M´M´ will have to return to MM because of the government intertemporal budget constraint.

c) the uncovered interest parity condition is relevant for the long-run while covered interest parity is relevant for the short-run.

d) necessary in order to be consistent with the term structure of interest rates.

Oxford University Press, Online Resource Centre, Chapter 19.

Chapter 19

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