Consider two bonds, one issued in Euros in Germany, one issued in dollars in the United States. Assume that both government securities are one-year bonds - paying the face value of the bond one year from now. The exchange rate, E, stands at 1 Euro = $1.46. The face value and prices on the two bonds are given by:

United States, 1-year bond, Face value = $10,000, Price = $9,615.38

Germany, 1-year bond, Face value = Euros 13,333, Price = Euros 12,698.10

(a) Suppose iUS denotes the interest rate in the U.S., and iGER denotes the interest rate in Germany. Compute the nominal interest rates, iUS and iGER. Clearly show all calculations.

(b)There exists a market for buying and selling foreign exchange one year in the future, at a price determined today - this price is called the forward exchange rate. Denote the forward price of 1 Euro in terms of dollars by Ft+1. In other words, you can enter into a contract today to sell 1 Euro for Ft+1 dollars one year in the future. Assume you are a U.S. investor. You exchange dollars for Euros and purchase the German bond. The forward rate, denoted by Ft+1 is $1.50/Euro. Calculate the effective/realized rate of return from the German bond. Based on the interest rates calculated in part (a) and the current exchange rate, would you prefer to invest in the U.S. or in Germany? Clearly show all calculations.