Consider the following regression on annual data (in log terms), which can be used to form expectations about spot USD/GBP exchange rates in 1 year: ln[St+1]ln[St]=a+b(ln[1+i]ln[1+i])+t+1 Assume the current spot rate is 1.20USD/GBP, and that the continuously compounded (log) interest rates in the two currencies are 3.1% in USD and 1.1% in GBP. Also assume that the (conditional) volatility of the log exchange rate over the next year is 10%. You know that uncovered interest parity (the unbiasedness hypothesis) implies a=0,b=1, but the parameter estimates from the regression are a^=0,b^=0.60. a. (1) What is the expected spot exchange rate in 1 year under UIP? (2) What is it under the parameter estimates from the regression? b. Assume UIP is true, and that log exchange rate changes are normally distributed, what is the probability that the spot exchange rate in one year will be greater than the expected spot exchange rate under the parameter estimates calculated in (a2) above? Consider the following regression on annual data (in log terms), which can be used to form expectations about spot USD/GBP exchange rates in 1 year: ln[St+1]ln[St]=a+b(ln[1+i]ln[1+i])+t+1 Assume the current spot rate is 1.20USD/GBP, and that the continuously compounded (log) interest rates in the two currencies are 3.1% in USD and 1.1% in GBP. Also assume that the (conditional) volatility of the log exchange rate over the next year is 10%. You know that uncovered interest parity (the unbiasedness hypothesis) implies a=0,b=1, but the parameter estimates from the regression are a^=0,b^=0.60. a. (1) What is the expected spot exchange rate in 1 year under UIP? (2) What is it under the parameter estimates from the regression? b. Assume UIP is true, and that log exchange rate changes are normally distributed, what is the probability that the spot exchange rate in one year will be greater than the expected spot exchange rate under the parameter estimates calculated in (a2) above