Question 1.

Assume U.S. interest rates increases relative to Mexican interest rates. Other things being equal, how should this affect the equilibrium value of the Mexican peso relative to the US dollar? Explain using the supply-demand framework.

Question 2.

Chinas foreign-exchange reserves fall to lowest levels in nearly six years (WSJ 1/8/2017). One analyst said that the Chinese government had been selling its forex reserves to keep the value of the yuan low and by doing so, it can promote Chinese exports. Do you agree with this argument? Why?

Question 3.

Alan Greenspan specializes in cross-rate arbitrage. He notices the following quotes:

1 CHF = 1.01 USD

1 AUD = 0.70 USD

1 CHF = 1.27 AUD

[CHF: Swiss franc, AUD: Australian dollar]

Ignoring transaction costs, is there an arbitrage opportunity? If yes, calculate the arbitrage profit Alan could earn if he has US$1,000,000 available for this purpose?