Suppose you obtain the following quotes:

Foreign exchange market:

Spot rate: S_C$/= 1.3623

Forward rate: F³⁶⁰_C$/= 1.3972

Bond market (one year):

R_C$= 8% p.a.

R= 6% p.a.

Note: Keep your answers to4decimal points if necessary.

a) Based on the above information, is there any arbitrage opportunity? If yes, what should the commercial bank do to capture this arbitrage opportunity? Explain.

b) Suppose the commercial bank has the ability to "move" the market (i.e. affecting the spot exchange rate, the forward exchange rate, and the returns on bonds in both countries), what happens to these variables after the transactions carried in part (a)? Explain.

c) Instead of affecting the interest rates and the one-year forward exchange rate, suppose the spot exchange rate bears all the burden of adjustments, find the spot C$/ exchange rate that would eliminate interest arbitrage.