Question

Assume that the Uncovered Interest Parity (UIP) holds. If the rate of retum on a euro asset is 8 percent and the rate of return on a comparable dollar asset is 4 percent, the expected rate of dollar depreciation must be
A. -5 percent.
B. 4 percent.
C. -3 percent.
D. -4 percent.

Answer 1

Answer:

D. -4 percent.

Explanation:

Rate of return on Euro assets = 8%

Rate of return on Dollar assets = 4%

As per the Uncovered Interest Parity condition,

Expected rate of depreciation of the dollar

= Rate of return on Dollar assets - Rate of return on Euro assets

= 4% - 8%

= -4%

Therefore, The expected rate of dollar depreciation must be -4%.