TOPIC: INTERNATIONAL FINANCE

13. Zico Co is medium-sized company whose ordinary shares are all owned by the members of one family. The domestic currency is the dollar. It has recently began exporting to a European country and expects to receive 500,000 in six-months' time. The company plans to take action to hedge the exchange rate risk arising from its European exports. Zico Co could put cash on deposit in the European country an at annual rate of 3% per year and borrow at 5% per year. The company could put cash on deposit in its home country at an annual interest rate of 4% per year and borrow at 6% per year. Inflation in the European country is 3% per year, while inflation in the home country of Zico Co is 4.5% per year. The following exchange rates are currently available to Zico Co: Current spot exchange rate Six-month forward exchange rate One-year forward exchange rate 2,000 per US$ 1.990 per US$ 1.981 per US$ Zico Co wants to hedge its future euro receipt. Required: a. Compute the dollar value of a forward exchange rate contract b. Calculate the dollar value of a money market hedge. Find the one year expected (future) spot rate predicted by purchasing power parity theory C