a) The one-year interest rates for the USD and EUR are: r^USD = 1% and r^EUR = 5%. The expected USD/EUR rate for year = 1 is E (X₁^USD/EUR) = 1.12 and the current spot rate is X₀^USD/EUR = 1.08. Which of the following two statements is correct?

S1: Based on UIRP, the EUR is currently undervalued against the USD by 7.25%.

S2: Based on UIRP the USD is currently overvalued against the EUR by 7.25%

Option 1: S2 is correct but S1 is false

Option 2: Both statements are correct

Option 3: S1 is correct and S2 is false

b) Based on _____________, if there is an unexpected decrease in AUD interest rates due to a change in Australian monetary policy (not inflation expectations), holding all else constant, the current (X₀^USD/AUD) spot rate would _____________.

Option 1: Asset Market Approach; decrease

Option 2: Fisher Approach; decrease

Option 3: Fisher Approach; increase