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Indicate whether the statement is true or false.
1. Fundamental forecasting has been found to be consistently superior to the other forecasting techniques.
a. True
b. False
2. A speculator who expects a foreign currency to appreciate could purchase the currency forward and, when it is
received, sell it in the spot market.
a. True
b. False
3. If the quoted cross-exchange rate between two foreign currencies is not aligned with the two corresponding exchange
rates, investors can profit from triangular arbitrage.
a. True
b. False
4. Purchasing power parity suggests that the forward rate premium (or discount) should be about equal to the differential
in interest rates between the countries of concern.
a. True
b. False
5. A country that pegs its exchange rate to another exchange rate does not have complete control over its interest rates.
a. True
b. False
6. If a country in the eurozone suffers from a weak economy, it may devalue its currency to increase demand for its
exports and thereby stimulate its economy.
a. True
b. False
7. A pegged exchange rate system is no longer used by any countries.
a. True
b. False
8. Currency futures contracts are standardized, whereas forward contracts are more flexible and can specify whatever
amount and maturity date are desired.
a. True
b. False
9. The Swiss franc is presently pegged to the euro.
a. True
b. False
10. The potential benefits from using foreign exchange derivatives are independent of the expected exchange rate
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a. True
b. False
11. The forward rate is the exchange rate for immediate delivery.
a. True
b. False
12. When countries experience substantial net outflows of funds, they commonly use indirect intervention by raising
interest rates to discourage excessive outflows of funds and therefore limit any downward pressure on the value of their
currency.
a. True
b. False
13. The indirect exchange rate is always the reciprocal of the direct exchange rate.
a. True
b. False
14. The primary advantage of currency options over forward and futures contracts is that they provide a right rather than
an obligation to purchase or sell a particular currency at a specified price within a given period.
a. True
b. False
15. The European Central Bank is responsible for setting fiscal policy for all countries in the eurozone.
a. True
b. False
16. The following information refers to Fresno Bank and Champaign Bank.
Bid Rate on Euros Ask Rate on Euros
Fresno Bank $1.002 $1.009
Champaign Bank $0.997 $1.000
Based on this information, locational arbitrage would be profitable.
a. True
b. False
17. The Smithsonian Agreement allowed for a devaluation of the dollar and for a widening of the boundaries within which
currencies were allowed to fluctuate.
a. True
b. False
18. The forward rate premium is dictated by the national income differential of the two currencies.
a. True
b. False
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19. Financial institutions rarely use the forward market.
a. True
b. False
20. In reality, exchange rates do not always change as suggested by purchasing power parity.
a. True
b. False
21. Exchange rates usually change precisely as suggested by the purchasing power parity (PPP) theory.
a. True
b. False
22. The indirect exchange rate specifies the value of the currency in U.S. dollars.
a. True
b. False
23. Direct intervention is always extremely effective.
a. True
b. False
24. The forward rate premium reflects the percentage by which the spot rate exceeds the forward rate on an annualized
basis.
a. True
b. False
25. When the Federal Reserve attempts to lower interest rates by increasing the U.S. money supply and has no impact on
inflationary expectations, it puts upward pressure on the value of the dollar.
a. True
b. False
26. A country that pegs its currency is still able to maintain complete control over its local interest rates.
a. True
b. False
Indicate the answer choice that best completes the statement or answers the question.
27. Which of the following is typically used as the basis of a market-based forecast?
a. the currency’s spot rate
b. a time-series model showing the currency’s moving average
c. the currency’s volatility index
d. the currency’s forward rate
e. the currency’s spot rate AND the currency’s forward rate
28. The speculative risk of purchasing a ____ is that the foreign currency’s value ____ over time.
a. put option; increases
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b. put option; decreases
c. call option; increases
d. futures contract; increases
29. If U.S. inflation suddenly becomes much higher than European inflation, the U.S. demand for European goods will
____. In addition, the supply of euros to be sold for dollars will ____; both forces will place ____ pressure on the value of
the euro.
a. increase; decline; upward
b. increase; decline; downward
c. decrease; increase; upward
d. decrease; increase; downward
e. None of these are correct.
30. If the demand for British pounds ____, the pound will ____, other things being equal.
a. increases; appreciate
b. decreases; appreciate
c. increases; depreciate
d. decreases; appreciate AND increases; depreciate
31. Which of the following statements is NOT correct regarding forward contracts?
a. They are typically negotiated with a commercial bank
b. They are standardized contracts that represent a standard number of units and have a specific maturity date.
c. They are sometimes referred to in terms of their percentage premium or discount.
d. They can be used to hedge a corporation’s risk that a currency’s value may appreciate or depreciate over time.
32. If the forward rate of a foreign currency ____ the existing spot rate, the forward rate will exhibit a ____.
a. exceeds; discount
b. is below; premium
c. is below; discount
d. exceeds; discount AND is below; premium
33. A system whereby exchange rates are market determined without boundaries but subject to government intervention is
called
a. a dirty float.
b. a free float.
c. the gold standard.
d. the Bretton Woods era.
34. A speculator who expects the euro to appreciate might
a. purchase euros forward, and when they are received, sell them in the spot market.
b. sell euros forward, and then purchase them in the spot market just before fulfilling the forward obligation.
c. sell futures contracts on euros, and then purchase euros in the spot market just before fulfilling the futures
obligation.
d. All of these are correct.
35. Which of the following does NOT influence the supply of and demand for a currency?
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a. differential interest rates
b. differential inflation rates
c. direct government intervention
d. indirect government intervention
e. All of these affect the supply of and demand for a currency.
36. Which of the following statements is NOT correct?
a. Central banks often consider adjusting a currency’s value to influence economic conditions.
b. If the U.S. central bank wishes to stimulate the economy, it could weaken the dollar.
c. A weaker dollar could cause U.S. inflation by reducing foreign competition.
d. Direct intervention occurs when the central bank influences the factors that determine the dollar’s value.
37. At any given point in time, the price at which banks will buy a currency is ____ the price at which they sell it.
a. higher than
b. lower than
c. the same as
d. None of these are correct.
38. In the Wall Street Journal, you observe that the British pound (£) is quoted at $1.65. The Australian dollar (A$) is
quoted at $0.60. What is the value of the Australian dollar in British pounds?
a. A$2.75
b. A$0.36
c. £2.75
d. £0.36
e. None of these are correct.
39. The exchange rate between two foreign (nondollar) currencies is known as a(n)
a. indirect dollar rate.
b. forward rate.
c. cross-exchange rate.
d. derived exchange rate.
40. If the spot rate ____ the exercise price, a currency ____ option will not be exercised.
a. remains below; call
b. remains below; put
c. remains above; call
d. remains below; call AND remains below; put
41. If a commercial bank expects the euro to appreciate against the dollar, it may take a ____ position in euros and a ____
position in dollars.
a. short; short
b. long; short
c. short; long
d. long; long
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42. If European inflation suddenly becomes much higher than U.S. inflation, the U.S. demand for European goods will
____. In addition, the supply of euros to be sold for dollars will ____; both forces will place ____ pressure on the value of
the euro.
a. increase; decline; upward
b. increase; decline; downward
c. decrease; increase; upward
d. decrease; increase; downward
e. None of these are correct.
43. The act of capitalizing on the discrepancy between the forward rate premium and the interest rate differential is called
a. triangular arbitrage.
b. locational arbitrage.
c. covered interest arbitrage.
d. interest rate parity.
44. If the U.S. government imposed trade restrictions on U.S. imports, this would ____ the U.S. demand for foreign
currencies and would place ____ pressure on the values of foreign currencies (with respect to the dollar).
a. increase; upward
b. increase, downward
c. limit; upward
d. limit; downward
45. The Bretton Woods era was the era
a. of free-floating exchange rates.
b. of floating rates without boundaries, but subject to government intervention.
c. in which governments maintained exchange rates within 1 percent of a specified rate.
d. in which exchange rates were maintained within 10 percent of a specified rate.
46. Which of the following is NOT a method of forecasting exchange rates?
a. using the forward rate for a currency to predict the future spot rate
b. using a time-series model that examines moving averages and allows the forecaster to identify patterns in a
currency’s movements
c. using the volatility of future exchange rate movements
d. examining current values for economic variables along with their historical impact on a currency’s value
47. ____ are not foreign exchange derivatives.
a. Forward contracts
b. Currency futures contracts
c. Currency swaps
d. Currency options
e. All of these are foreign exchange derivatives.
48. According to interest rate parity, if the interest rate in a foreign country is ____ than in the home country, the forward
rate of the foreign currency will have a ____.
a. higher; discount
b. lower; premium
c. higher; premium
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d. higher; discount AND lower; premium
49. A(n) ____ in the supply of euros for sale will cause the euro to ____.
a. increase; appreciate
b. increase; depreciate
c. decrease; depreciate
d. None of these are correct.
50. ____ forecasting involves the use of historical exchange rate data to predict future values.
a. Technical
b. Fundamental
c. Market-based
d. Mixed
51. If U.S. interest rates suddenly become much higher than European interest rates (and if this does not cause concern
about higher inflation in the United States), the U.S. demand for euros would ____, and the supply of euros to be
exchanged for dollars would ____, other factors held constant.
a. increase; increase
b. increase; decrease
c. decrease; increase
d. decrease; decrease
52. In a(n) ____ exchange rate system, the foreign exchange market is totally free from government intervention.
a. pegged
b. dirty floating
c. freely floating
d. Bretton Woods
e. None of these are correct.
53. Currency futures contracts differ from forward contracts in that they
a. are an obligation.
b. are not an obligation.
c. are standardized.
d. can specify any amount and maturity date.
54. Assume that a British pound put option has a premium of $.03 per unit and an exercise price of $1.60. The present
spot rate is $1.61. The expected future spot rate on the expiration date is $1.52. The option will be exercised on this date,
if at all. What is the expected per unit net gain (or loss) resulting from purchasing the put option?
a. $.01 loss
b. $.09 loss
c. $.09 gain
d. $.05 gain
55. On a financial website, you observe that the euro (€) is quoted for $1.67. The Canadian dollar (C$) is quoted for
$0.62. What is the value of the Canadian dollar in euros?
a. C$2.69
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b. €0.37
c. €2.69
d. C$0.37
e. None of these are correct.
56. ____ serve as financial intermediaries in the foreign exchange market by buying or selling currencies to accommodate
customers.
a. Pension funds
b. International mutual funds
c. Insurance companies
d. Commercial banks
e. None of these are correct.
57. Which of the following are most likely to provide currency forward contracts to their customers?
a. commercial banks
b. international mutual funds
c. brokerage firms
d. insurance companies
58. If the spot rate of the British pound is $2, and the 180-day forward rate is $2.05, what is the annualized premium or
discount?
a. 2.5 percent discount
b. 2.5 percent premium
c. 10 percent premium
d. 5 percent discount
e. 5 percent premium
59. When a government influences factors, such as inflation, interest rates, or income, in order to affect currency’s value,
this is an example of
a. direct intervention.
b. indirect intervention.
c. a freely floating system.
d. a pegged system.
60. Assume the following information.
• Interest rate on borrowed euros is 5 percent annualized.
• Interest rate on dollars loaned out is 6 percent annualized.
• Spot rate is 1.10 euros per dollar (one euro = $0.909).
• Expected spot rate in five days is 1.15 euros per dollar.
• Fabrizio Bank can borrow 10 million euros.
If Fabrizio Bank attempts to capitalize on the above information, its profit over the five-day period is
a. 2,653,597.22 euros.
b. 455,266.81 euros.
c. 452,426.04 euros.
d. None of these are correct.
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61. Purchasing power parity suggests that the exchange rate will on average change by a percentage that reflects the ____
differential between two countries.
a. income
b. interest rate
c. inflation
d. tax
62. The devaluation of a country’s currency
a. makes foreign products more expensive for consumers in that country.
b. increases foreign demand for that country’s exports.
c. can lead to deflation in that country.
d. makes foreign products more expensive for consumers in that country AND increases foreign demand for that
country’s exports.
63. Assume an equilibrium state in which European inflation and U.S. inflation are both 4 percent. If U.S. inflation
suddenly decreases to 2 percent, the euro will ____ against the dollar by approximately ____ percent, according to
purchasing power parity.
a. appreciate; 2
b. depreciate; 2
c. appreciate; 4
d. depreciate; 4
e. None of these are correct.
64. Generally, a ____ home currency can ____ domestic economic growth.
a. weak; dampen
b. strong; stimulate
c. strong; dampen
d. weak; dampen AND strong; stimulate
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Answer Key
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