I would appreciate the solution $to$ the following question:

Currently, the spot exchange rate is $$1\mathrm{.}50$ per pound and the three$-$month forward

exchange rate is $$1\mathrm{.}52$ per pound. The three$-$month interest rate is $8\mathrm{.}0\%$ per annum

in the U$.$S$.$ and $5\mathrm{.}8\%$ per annum in the U$.$K$.$ Assume that you can borrow as much as

$$1,500,000$ or $\frac{?}{\text{b}\text{a}\text{r}}(c)1,000,000.$

$($a$)$ Determine whether the interest rate parity is currently holding.

$($b$)$ If the interest rate parity is not holding, how would you carry out covered interest

arbitrage? Show all the steps and determine the arbitrage profit.

$($c$)$ Explain how the IRP will be restored by the market as a result of covered arbitrage

activities.

Between October $2009$ and March $2012$ Brazil imposed a number of capital control taxes

to reduce capital inflows into Brazil. After March $2012$ those restrictions were removed.

The cupom cambial, ${}_t^{\text{c}\text{u}\text{p}\text{o}\text{m}},$ is the $360-$day interest rate of U$.$S$.$ dollar deposits inside

Brazil. It is defined as

$1+i_t^{\text{c}\text{u}\text{p}\text{o}\text{m}}=(1+i_t)\frac{S_t}{F_t}$

$.$ where $S_t$ is the spot exchange rate $($that is$,$ the reais price of one U$.$S$.$ dollar$),F_t$ is the

$360-$day forward exchange rate of U$.$S$.$ dollars, and it the $360-$day nominal reais interest

rate in Brazil. Let $i_t^{?}$ denote the $360-$day U$.$S$.$ dollar LIBOR rate and define the spread

as

$)t$

$($a$)$ Suggest a strategy to use observations on the variable spreadt to test the effective$-$

ness of the Brazilian capital controls in reducing capital inflows.

$($b$)$ The following figure shows the variable spreadt from June $2009$ to December $2012.$

What do you conclude from this figure about the effectiveness of the capital in$-$

flow controls imposed by the Brazilian authorities. Be sure to be specific in your

argument.