. Assume the spot exchange rate is $1.31 per pound (E$/ =1.31), the expected exchange rate is $1.42 per pound, the one-year interest rate on bank deposits is 2% in the United States and 1% in the United Kingdom.

a. Does UIP hold in this example? Explain.

b. Which type of deposit is more attractive? Dollar deposit, pound deposit, or no difference? Explain.

c. Consider a FX market equilibrium in which the U.S. dollar is the home currency and the pound is the foreign currency. When the pound interest rate rises, will the foreign return curve shift up or down in the FX market? What happens to the dollar value? Explain both graphically and intuitively.