Question

Assume the following rate quotes on the British Pound: Orleans Bank- Bid $1.46 Ask $1,47, Kansas Bank-Bid $1,48 Ask $1,49, Is there an arbitrage here? If so, what happens to markets as a result?

Answer 1

Yes, there is arbitrage opportunity

Orleans Bank ask is less than Kansas bank's Bid for pounds

So, traders can make arbitrage gains by buying pounds @ $ 1.47 from Orleans Bank

and can sell pounds to Kansas Bank @ $ 1.48

Traders will continuously buy pounds from Orleans Bank and sell pounds to Kansas Bank as they have able to make risk free gains (arbitrage gains) until ask of Orleans Bank is more than Bid of Kansas Bank.

So ultimately, ask of Orleans Bank will rise due to heavy buying pressure and Bid of Kansas bank will fall due to heavy selling pressure and soon ask of Orleans Bank will be more than Bid of Kansas Bank leading to extinction of arbitrage opportunity