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Assume that the following regression model was applied to historical quarterly data: e f = a 0 + a 1 INT t + a 2

Assume that the following regression model was applied to historical quarterly data:

ef = a0 + a1INTt + a2INFt-1 + t

where

ef = percentage change in the exchange rate of the Japanese yen in period t
INTt = average real interest rate differential (U.S. interest rate minus Japanese interest rate) over period t
INFt-1 = inflation differential (U.S. inflation rate minus Japanese inflation rate) in the previous period
a0, a1, a2 = regression coefficients
t = error term

Assume that the regression coefficients were estimated as follows:

a0 = 0.0 a1 = 0.9 a2 = 0.3

Also assume that the inflation differential in the most recent period was 4 percent. The real interest rate differential in the upcoming period is forecasted as follows:

Interest Rate Differential Probability
0% 10%
1 65
2 25

If Stillwater, Inc., uses this information to forecast the Japanese yen's exchange rate, what will be the probability distribution of the yen's percentage change over the upcoming period? Round your answers to one decimal place.

Forecast of Interest Rate Differential Forecast of the Percentage Change in the Japanese Yen Probability
0% _____% 10%
1% _____% 65%
2% _____ % 25%

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