B. Our friend Sven has been asked by a Volvo to solve a problem for them. They o
ID: 2657209 • Letter: B
Question
B. Our friend Sven has been asked by a Volvo to solve a problem for them. They oroiem i5, the local importer has no US dollars or Swedish krona to pay him. Instead, the importer would like to pay in the as been asked by a Volvo to solve would like to export 10 cars to Zambia. The curency the kwacha, and he has offered to pay Volvo 800,000 kwacha, in one year's time (when he'll receive the cars). Currently, the kwacha is worth $.20 US dollars, and the Swedish Krona is worth $.128 uS dollars. Volvo would like to do business, but they are afraid the kwacha will decline in value. Unfortunately, there is no forward market, nor options traded for the kwacha-that's why they are asking Sven to help them out. They would like him to figure out a way they guarontee a certain Swedish krona value for their exports Sven sees that Swedish interest rates are currently 10%, and interest rates in Zambia are 25%. How can Sven a Volvo of a guaranteed Swedish krona value for their exports? How much will they receive? Show your work, being sure to describe each transaction carefully. SUMMARY OF THE INFORMATION: 1) 2) Will be paid Volvo 800,000 kwacha, in one year's time The kwacha is currently worth $.20 US dollars 3) 4) 5) The Swedish Krona is currently worth $.128 US dollars Swedish interest rates are currently 10%. Interest rates in Zambia are 25%. HINT: To help you out, here's the answer-you figure out how to get there: In the end, Sven's able to guarantee Volvo that they will receive 1,100,000 SKR for these exports to Zambia. lnur osts are denominated inExplanation / Answer
As,
1 SKR = 0.128 USD
Therefore,
1USD = (1/0.128) SKR =7.8125 SKR ------(i)
As,
1 Kwacha =0.20 USD
Therefore,
1USD = (1/0.20) Kwacha =5 Kwacha-------(ii)
From (i) and (ii),
5 Kwacha = 7.8125 SKR
Therefore,
1 Kwacha =1.5625 SKR -----------------(iii)
Considering the formula of covered interest rate parity,
Forward Rate/Spot Rate = (1+Interest rate of SKR)/(1+Interest rate of Kwacha)
Therefore,
Forward Rate =Spot Rate x [(1+Interest rate of SKR)/(1+Interest rate of Kwacha)]
= [800,000 x (1.1/1.25)] Kwacha
=704,000 Kwacha ---------------------------------(iv)
Now, from (iii) and (iv),
704,000 Kwacha is equivalent to (704,000 X 1.5625) SKR which is equal to 1,100,000 SKR.
As, forward market does not exist for the Kwacha, there is no arbitrage opportunity market for it. So, Sven will assure Volvo of guaranteed 1,100,000 SKR for their exports.
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