3. Under which condition would the returns on dollar and ruble deposits be equal?
4. Use the condition obtained on the previous step to express exchange rate $E_s/p$ as a function of
$i_s$, $i_p$ and $E_s/p$.
5. Suppose the interest rate in the US is 1% and the interest rate in Russia is 15%. In a year
investors expect the exchange rate to be at $E_s/p = 0.016$. Suppose the UIP holds. What is the
exchange rate today?
6. Exchange rates and shocks. Using the UIP expression you obtained answer the following
questions:
(a) Suppose the Central Bank of Russia announces its intentions to cut the interest rate. What
will happen to $E_s/p$? Will the ruble appreciate or depreciate against the dollar? Explain.
(b) Suppose now the FED announces the interest rate hike. What will happen to $E_s/p$? Will
the ruble appreciate or depreciate against the dollar? Explain.
Problem 2. (30 points) Suppose the price of a consumer basket in the US equals $105, while in France
it is €80.
1. Under which exchange rate $E_s/e$ will the the two baskets cost the same amount of money when
expressed in common currency?
