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Homework answers / question archive / One year interest rates are currently 3
One year interest rates are currently 3.30% in the U.S and 2.60% in "Euroland. The current spot rate between the euro and dollar is 1.3225/. What is the expected spot rate in one year if the international Fisher effect holds?
Assume you have 1 Euro right now.
If you deposit 1 Euro into the bank in Euorland, after 1 year, you will get
1*(1+2.6%)=1.026 Euros.
Now if you change 1 Euro into US dollars, you will get 1.3225 dollars based on the current spot rate.
Then you deposti this 1.3225 USD into the bank, you will get
1.3225 *(1+3.3%)=1.3661245 dollars after 1 year.
So after 1 year,
1.026 Euros is equal to 1.3661245 dollars. thus the expected spot rate is
1.3661245/1.026=1.3315 (Euro/USD)
