ECON100 Lecture Notes - Lecture 13: Interest Rate Parity, Arbitrage, Foreign Exchange Market

• School: University of Waterloo
• Department: Economics
• Course: ECON100
• Professor: Joseph Dejuan

Document Summary

Exchange rate changes when its expected to change. Based on new information about variables that influence demand and supply in the forex market. Arbitrage is the practice of buying in one market and selling for a higher price in another. If an item is traded in more than one place, the price will be the same in all locations. Suppose a bank deposit earns 1% a year in tokyo and 3% in. Due to expectations of a change in the exchange rate. Eg a japanese investor may invest in toronto but one year later the depreciation of canadian dollars may cancel it out. Rate of return in tokyo = rate of return in toronto + expected depreciation of c$ Rate of return in tokyo = 3% + (-2%) Market forces attain interest rate parity very quickly. Suppose a camera is 10000 yen in tokyo and in toronto. If exchange rate is 100-1, monies have the same value.