Question Details

Explain how the relationship between the U.S. interest rate and the Canadian interest rate 



1. Intervention Effects on Corporate Performance.
Assume you have a subsidiary in Australia. The subsidiary sells mobile homes to local consumers in Australia, who buy the homes using mostly borrowed funds from local banks. Your subsidiary purchases all of its materials from Hong Kong. The Hong Kong dollar is tied to the U.S. dollar. Your subsidiary borrowed funds from the U.S. parent, and must pay the parent $100,000 in interest each month. Australia has just raised its interest rate in order to boost the value of its currency (Australian dollar, A$). The Australian dollar appreciates against the dollar as a result. Explain whether these actions would increase, reduce, or have no effect on:
a. The volume of your subsidiary- sales in Australia (measured in A$),
b. The cost to your subsidiary of purchasing materials (measured in A$)
c. The cost to your subsidiary of making the interest payments to the U.S. parent (measured in A$). Briefly explain each answer.
2. Interpreting Changes in the Forward Premium. 
Assume that interest rate parity holds. At the beginning of the month, the spot rate of the Canadian dollar is $.70, while the one-year forward rate is $.68. Assume that U.S. interest rates increase steadily over the month. At the end of the month, the one-year forward rate is higher than it was at the beginning of the month. Yet, the oneyear forward discount is larger (the one-year premium is more negative) at the end of the month than it was at the beginning of the month. Explain how the relationship between the U.S. interest rate and the Canadian interest rate changed from the beginning of the month until the end of the month



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