(G) Natural Hedges An Italian firm is producing in Italy but selling in both Italy and the US. It's sales are EUR0.7 mill. in Italy and USD1 mill. in the USA per year. The exchange rate currently is USD1.3/EUR and this is also the expected future rate. The Italian firm is considering two strategies: (a) Produce only in Italy at a cost of EUR1 mill per year. (b) Produce in Italy for the Italian market at a cost of EUR500.000 per year and produce in the US for the US market at a cost of USD650.000 per year. For now, assume that prices stay constant in both countries over the next year. (i) What it is the expected euro profit from each of the two strategies? (ii) What happens, for each of the two strategies, to the euro profit of the firm in case there is a 10% appreciation of the USD? (iii) What happens, for each of the two strategies, to the euro profit of the firm in case there is a 10 % depreciation of the USD? (iv) Suppose the rate of appreciation of the US dollar, s(t+1,EUR/USD) is normally distributed, N(0,0.152). What is the variance of the euro profit of the firm for each of the two strategies? Which strategy do you think would be better for the firm? Assume now that a general bundle costs EUR1000 in Italy and USD1300 in the US. (v) What is the real USD/EUR exchange rate