Suppose the Spot and Six-Month Forward Rates on the Norwegian

question 26

Multiple Choice

Suppose the spot and six-month forward rates on the Norwegian krone are NKr5.94 and NKr6.05 respectively. The annual risk-free rate in the United States is 4.5 percent, and the annual risk-free rate in Norway is 7 percent. What would the six-month forward rate have to be on the Norwegian krone to prevent arbitrage?

• A) NKr6.0138
• B) NKr6.0072
• C) NKr6.0103
• D) NKr6.0174
• E) NKr6.0067

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Definitions:

Inflation Fallacy

The inflation fallacy refers to the mistaken belief that inflation erodes the real value of money without considering that wages may also rise with inflation.

Nominal Incomes

The amount of money earned by individuals or entities, not adjusted for inflation, expressed in current dollars.

Real Income

The purchasing power of an individual's or household's income, adjusted for inflation, indicating the quantity of goods and services that can be purchased.

Fisher Effect

describes the relationship between nominal interest rates, real interest rates, and inflation, stating that the nominal interest rate is equal to the sum of the real interest rate and the expected inflation rate.