Question

As an employee of the foreign exchange department for a large company, you have been given the following information.

Beginning of Year

Spot rate of £ = $1.596

Spot rate of Australian dollar (A$) = $.70

Cross exchange rate: £1 = A$2.28

One-year forward rate of A$ = $.71

One-year forward rate of £ = $1.58004

One-year U.S. interest rate = 8.00%

One-year British interest rate = 9.09%

One-year Australian interest rate = 7.00%

Assume that at the beginning of the year, the pound’s value is in equilibrium. Assume that over the year the British inflation rate is 6 percent while the U.S. inflation rate is 4 percent. Assume that any change in the pound’s value due to the inflation differential has occurred by the end of the year. Using this information and the information provided in question 1, determine how the pound’s value changed over the year.

Answer 1