Question

Analytical Application

As a finance manager for an MNC, you are asked to forecast the forward rate of the British pounds based on IRP and PPP. Assume interest rate parity and purchasing power parity hold. Using the given information in the table below, answer the following questions under IRP and PPP assumptions.

- What will be the forecast for the British pounds one year forward?
- What percentage of appreciation or depreciation does this forecast imply over the next year period?
- Do you think the one year forward rate would underestimate, overestimate, or be an unbiased estimate of the future spot rate in one year?
- Explain, compare, and contrast your estimates under IRP and PPP.

Country
Nominal annual interest rate
Annual inflation rate
Spot rate

USA
0.78%
3%
-

UK
1.58%
4.2%
1.6200

Write a paper to answer the above questions. Your paper should be between 2-3 pages, not including a reference page. Include appropriate citations and references in APA format. The paper does not need an abstract and should be double-spaced, font size 12, and should include at least three valid sources. Write in a Word document.

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As per the interest rate parity method, the disparity in the interest rates between two economies is equalized through adjustments in their exchange rates. This would ensure that an investor is indifferent in investing in any country and the international markets are in equilibrium (Ross, 2009).

In this case, the nominal interest rate is higher in UK when compared to US. This means that the lower interest rates in US would be...

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