Chapter 09: Forecasting Exchange Rates
the same amount as the forward premium or discount, respectively.
a.
True
b.
False
44. Research indicates that currency forecasting services almost always outperform forecasts based on the forward rate.
a.
True
b.
False
45. When measuring forecast performance of different currencies, it is often useful to adjust for their relative sizes. Thus,
percentages, rather than nominal amounts, are often used to compute forecast errors.
a.
True
b.
False
46. The closer graphical points are to the perfect forecast line, the better the forecast.
a.
True
b.
False
47. Foreign exchange markets appear to be strong-form efficient.
a.
True
b.
False
48. A motivation for forecasting exchange rate volatility is to obtain a range surrounding the forecast.
a.
True
b.
False
49. Two methods for assessing exchange rate volatility are to use the volatility of historical exchange rate movements and
to derive the exchange rate’s implied standard deviation from the currency option pricing model.
a.
True
b.
False
50. Market-based forecasting involves the use of historical exchange rate data to predict future values.
a.
True
b.
False
51. Fundamental models examine moving averages over time and thus allow the development of a forecasting rule.
a.
True
b.
False
52. A forecasting technique based on fundamental relationships between economic variables and exchange rates, such as
inflation, is referred to as technical forecasting.
a.
True
b.
False
53. Usually, fundamental forecasting is used for short-term forecasts, while technical forecasting is used for longer-term
forecasts.
a.
True
b.
False
54. If points are scattered evenly on both sides of the perfect forecast line, then the forecast appears to be very accurate.
a.
True
b.
False
55. If foreign exchange markets are strong-form efficient, then all relevant public and private information is already
reflected in today’s exchange rates.
a.
True
b.
False
56. Exchange rates one year in advance are typically forecasted with almost perfect accuracy for the major currencies, but
not for currencies of smaller countries.
a.
True
b.
False
57. The potential forecast error is larger for currencies that are more volatile.
a.
True
b.
False
58. A forecast of a currency one year in advance is typically more accurate than a forecast one week in advance since the
currency reverts to equilibrium over a longer term period.
a.
True
b.
False
59. In general, any key managerial decision that is based on forecasted exchange rates should rely completely on one
forecast rather than alternative exchange rate scenarios.
a.
True
b.
False
60. Monson Co., based in the United States, exports products to Japan denominated in yen. If the forecasted value of the
yen is substantially ____ than the forward rate, Monson Co. will likely decide ____ the payments.
a.
higher; to hedge
b.
lower; not to hedge
c.
higher; not to hedge
d.
none of the above
61. When a U.S.-based MNC wants to determine whether to establish a subsidiary in a foreign country, it will always
accept that project if the foreign currency is expected to appreciate.
a.
True
b.
False
62. Which of the following is not a limitation of technical forecasting?
a.
It’s not suitable for long-term forecasts of exchange rates.
b.
It doesn’t provide point estimates or a range of possible future values.
c.
It cannot be applied to currencies that exhibit random movements.
d.
It cannot be applied to currencies that exhibit a continuous trend for short-term forecasts.
Chapter 09: Forecasting Exchange Rates
63. The following regression model was estimated to forecast the percentage change in the Australian dollar (AUD):
AUDt = a0 + a1INTt + a2INFt − 1 +
t,
where AUD is the quarterly change in the Australian dollar, INT is the real interest rate differential in period t between the
United States and Australia, and INF is the inflation rate differential between the United States and Australia in the
previous period. Regression results indicate coefficients of a0 = .001; a1 = −.8; and a2 = .5. Assume that INFt − 1 = 4%.
However, the interest rate differential is not known at the beginning of period t and must be estimated. You have
developed the following probability distribution:
Probability
Possible Outcome
20%
−3%
80%
−4%
There is a 20 percent probability that the Australian dollar will change by ____, and an 80 percent probability it will
change by ____.
a.
4.5 percent; 6.1 percent
b.
6.1 percent; 4.5 percent
c.
4.5 percent; 5.3 percent
d.
none of the above
64. Purchasing power parity is used in:
a.
technical forecasting.
b.
fundamental forecasting.
c.
market-based accounting.
d.
all of the above.
65. If speculators expect the spot rate of the yen in 60 days to be ____ than the 60-day forward rate on the yen, they will
____ the yen forward and put ____ pressure on the yen’s forward rate.
a.
higher; buy; upward
b.
higher; sell; downward
c.
higher; sell; upward
d.
lower; buy; upward
66. If speculators expect the spot rate of the Canadian dollar in 30 days to be ____ than the 30-day forward rate on
Canadian dollars, they will ____ Canadian dollars forward and put ____ pressure on the Canadian dollar forward rate.
a.
lower; sell; upward
b.
lower; sell; downward
c.
higher; sell; upward
d.
higher; sell; downward
67. Assume that U.S. annual inflation equals 8 percent, while Japanese annual inflation equals 5 percent. If purchasing
power parity is used to forecast the future spot rate, the forecast would reflect an expectation of:
a.
appreciation of yen’s value over the next year.
b.
depreciation of yen’s value over the next year.
c.
no change in yen’s value over the next year.
d.
information about interest rates is needed to answer this question.
68. Assume that U.S. interest rates are 6 percent, while British interest rates are 7 percent. If the international Fisher effect
holds and is used to determine the future spot rate, the forecast would reflect an expectation of:
a.
appreciation of the pound’s value over the next year.
b.
depreciation of the pound’s value over the next year.
c.
no change in the pound’s value over the next year.
d.
not enough information to answer this question.
69. If the foreign exchange market is ____ efficient, then technical analysis is not useful in forecasting exchange rate
movements.
a.
weak-form
b.
semistrong-form
c.
strong-form
d.
all of the above
70. If today’s exchange rate reflects any historical trends in Canadian dollar exchange rate movements, but not all relevant
public information, then the Canadian dollar market is:
a.
weak-form efficient.
b.
semistrong-form efficient.
c.
strong-form efficient.
d.
all of the above.
71. Leila Corp. used the following regression model to determine if the forecasts over the last ten years were biased:
St = a0 + a1Ft − 1 +
t,
where St is the spot rate of the yen in year t and Ft − 1 is the forward rate of the yen in year t − 1. Regression results reveal
coefficients of a0 = 0 and a1 = .30. Thus, Leila Corp. has reason to believe that its past forecasts have ____ the realized
spot rate.
a.
overestimated
b.
underestimated
c.
correctly estimated
d.
none of the above
72. Assume that U.S. interest rates for the next three years are 5 percent, 6 percent, and 7 percent, respectively. Also
assume that Canadian interest rates for the next three years are 3 percent, 6 percent, and 9 percent. The current Canadian
spot rate is $.840. What is the approximate three-year forecast of the Canadian dollar’s spot rate if the three-year forward
rate is used as a forecast?
a.
$.840
b.
$.890
c.
$.856
d.
$.854
73. Which of the following is not one of the major reasons for MNCs to forecast exchange rates?
a.
to decide in which foreign market to invest excess cash
b.
to decide where to borrow at the lowest cost
c.
to determine whether to require a subsidiary to remit funds or invest them locally
d.
to speculate on exchange rate movements
74. Sensitivity analysis allows for all of the following except:
a.
accountability for uncertainty.
b.
focus on a single point estimate of future exchange rates.
c.
development of a range of possible future values.
d.
consideration of alternative scenarios.
75. If graphical points lie above the perfect forecast line, then the forecast overestimated the future value.
a.
True
b.
False
76. A regression model was applied to explain movements in the Canadian dollar’s value over time. The coefficient for the
inflation differential between the United States and Canada was −0.2. The coefficient of the interest rate differential
between the United States and Canada produced a coefficient of 0.8. Thus, the Canadian dollar depreciates when the
inflation differential ____ and the interest rate differential ____.
a.
increases; increases
b.
decreases; increases
c.
increases; decreases
d.
decreases; decreases
77. Different departments in an MNC should establish their own exchange rate forecasts because each department can
Chapter 09: Forecasting Exchange Rates
best determine the type of forecasts that it needs.
a.
True
b.
False
78. Market-based forecasting is based on fundamental relationships between economic variables and exchange rates.
a.
True
b.
False
79. In market-based forecasting, a forward rate quoted for a specific date in the future can be used as the forecasted spot
rate on that future date.
a.
True
b.
False
80. Since the forward rate does not capture the nominal interest rate between two countries, it should provide a less
accurate forecast for currencies in high-inflation countries than the spot rate.
a.
True
b.
False
81. The ideal currency for short-term deposits by an MNC will exhibit a high interest rate and appreciate over the
investment period.
a.
True
b.
False
82. If a foreign country’s interest rate is similar to the U.S. rate, the forward rate premium or discount will be close to zero,
meaning that the forward rate and the spot rate will provide similar forecasts.
a.
True
b.
False
83. Using the inflation differential between two countries to forecast their exchange rates is not always accurate because
of such factors as the uncertain timing of the impact of inflation and barriers to trade.
a.
True
b.
False
84. Forecast errors tend to be large for short forecast horizons.
a.
True
b.
False
