4. Interest rate parity 1. 2. 3. STEP: 3 of 3 Suppose that the six-month interest rate in the United States is 1%, while the six-month interest rate in Mexico is 4%. Further, assume the spot rate of the peso is $0.25. Suppose that you have $500,000 with which to attempt covered interest arbitrage. Assume the forward rate is $0.24279, as you just calculated, and the interest rates are the same as have been used throughout this problem. To start, you exchange your $500,000 (at the spot rate of $0.25) for 2,000,000peso. After depositing these funds for 6 months, and earning a return of 4%, your deposit grows to 2,080,000peso. , for a profit of about When you convert your 2,080,000peso back to dollars, you end up with approximately over your original $500,000. However, had you simply deposited your $500,000 in an account and accrued 1% interest, you would have for a profit of offer a significantly larger return than simply depositing the funds in a This example illustrates that covered interest arbitrage domestic account under interest rate parity. Grade Final Step TOTAL SCORE: 2/5 (to complete this step and unlock the next step)