Question #23
Reading: Reading 5 Currency Exchange Rates - Understanding Equilibrium Value
PDF File: Reading 5 Currency Exchange Rates - Understanding Equilibrium Value.pdf
Page: 9
Status: Unattempted
Correct Answer: A
Question
The carry trade is most likely to be profitable when:
Answer Choices:
A. uncovered interest rate parity holds
B. the forward rate is biased estimator of future spot rate
C. the Fisher relation is violated
Explanation
The carry trade is premised on uncovered interest rate parity not holding. When the
forward rate is an unbiased predictor of the future spot rate, uncovered interest rate
parity will hold and hence the carry trade will not be profitable. When the forward rate is a
biased predictor of future spot rate, uncovered interest rate parity will not hold and the
carry trade may be profitable.