Tutorial 03*
BFW2341 - Introduction to the foreign exchange (forex) market
1. Solve the following questions.
a. If the direct exchange rate of the euro is worth US$1.25, what is the indirect rate of the euro?
That is, what is the value of a dollar in euros?
b. Assume Poland’s currency (the zloty) is worth US$0.17 and the Japanese yen is worth
US$0.008. What is the cross rate of the zloty with respect to yen? That is, how many yen
equal a zloty?
2. Suppose Dow Chemical receives quotes of $0.009369 - $0.009371 for the yen and $0.03675 -
$0.03676 for the Taiwan dollar (NT$).
a. How many U.S. dollars will Dow Chemical receive from the sale of ¥50 million?
b. What is the U.S. dollar cost to Dow Chemical of buying ¥1 billion?
c. How many NT$ will Dow Chemical receive for US$500,000?
d. How many yen will Dow Chemical receive for NT$200 million?
e. What is the yen cost to Dow Chemical of buying NT$80 million?
3. Last year a dollar was equal to 7 Swedish kronor (SEK), and a Polish zloty (PLN) was equal to $.40.
Today, the dollar is equal to 8 Swedish kronor and a Polish zloty is equal to $.44. By what percentage
did the cross exchange rate of the Polish zloty in Swedish kronor (that is, the number of kronor that
can be purchased with one zloty; SEK/PLN) change over the last year?
4. Assume the following information:
Citibank NYC quotes:
Bid ($/€) 1.2624
Ask ($/€) 1.2625
Barclays London quotes:
Bid ($/€) 1.2622
Ask ($/€) 1.2623
Given this information, is locational arbitrage possible? If so, explain the steps involved in
locational arbitrage, and compute the profit from this arbitrage if you had $1,000,000 to use. What
market forces would occur to eliminate any further possibilities of locational arbitrage?
5. Assume the following information:
Quoted Price
Value of Canadian dollar in U.S. dollars $.90
Value of New Zealand dollar in U.S. dollars $.30
Value of Canadian dollar in New Zealand dollars NZ$3.02
*
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1
Given this information, is triangular arbitrage possible? If so, explain the steps that would reflect
triangular arbitrage, and compute the profit from this strategy if you had $1,000,000 to use. What
market forces would occur to eliminate any further possibilities of triangular arbitrage?
6. For each of the foreign exchange market participants identify their motive for buying or selling
foreign exchange.
7. What is the difference between the crawling band and a crawling peg?
8. How can central banks defend their currency—for example, if the currency is within a target zone or
pegged at a particular value?
9. What are some advantages and disadvantages of a freely floating exchange rate system versus a fixed
exchange rate system?
10. What is the impact of a weak home currency on the home economy, other things being equal?
11. With reference to the impossible trinity, what are the possible policy mixes that a nation could have?
What are the factors that a central bank needs to consider when deciding on its exchange rate regime?