Question

One-year interest rates are currently 2.50% in the United States and 3.70% in Great Britain. The current spot rate between the pound and dollar is $1.9000/£. What is the expected spot rate in one year if the international Fisher effect holds?

Answer 1

$1.8780/£

Step-by-step explanation:

According to the international Fisher effect, the relationship between the interest rate and the exchange rate between two countries A and B, after one year, is:

`F=(1+r_A)/(1+r_B)*C`

Where F is the future exchange rate, r is the interest rate, and C is the current exchange rate.

If the US has an interest rate of 2.50%, the UK has a rate pf 3.70% and the current exchange rate is $1.9000/£, the spot rate in one year will be:

`F=(1+0.0250)/(1+0.037)*1.9000\\F = \$1.8780/\pounds`

In one year, the spot rate will be $1.8780/£.