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Interest rate parity formula

Forums › ACCA Forums › ACCA FM Financial Management Forums › Interest rate parity formula

  • This topic has 1 reply, 2 voices, and was last updated 10 years ago by AvatarJohn Moffat.
Viewing 2 posts - 1 through 2 (of 2 total)
  • Author
    Posts
  • May 31, 2015 at 3:08 pm #250990
    AvatarElnur
    Member
    • Topics: 2
    • Replies: 7
    • ☆

    Hi
    I have the MCQ
    A company from Northland is expecting to receive Southland Krone in one year’s time. The spot
    rate is Northland dollar 3.4670 per 1 Krone. The company could borrow in Krone at 8% or in
    Northland dollars at 13%. There is no forward rate for one year’s time.
    What would interest rate parity predict the exchange rate to be in one year?

    The formula is

    Fo = So * (1+Ic)/(1+Ib)
    Ic – interest rate in country c (the overseas country) up to the future date
    Ib – interest rate in country b (the base country) up to the future date

    I calculate Fo=3.4670* (1+0.08)/(1+0.13)=3.3136

    But answer is 3.6275 becouse calculation is Fo=3.4670* (1+0.13)/(1+0.08)=3.6275

    I thought base country is Northland, but it’s say that base country is Southland? How to understand it?

    May 31, 2015 at 4:09 pm #251028
    AvatarJohn Moffat
    Keymaster
    • Topics: 57
    • Replies: 54836
    • ☆☆☆☆☆

    The quote if for N$ as against the Kr.

    Therefore ib is the Kr country and ic is the other country.

    (When you remember it as ‘base’ country, it is the country against which the currency is being quoted)

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