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At a point in time, foreign exchange arbitrageur noticed that the Japanese yen to U. dollar spot exchange rate was $: = 108 and the three-month…

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At a point in time, foreign exchange arbitrageur noticed that the Japanese yen to U.S. dollar spot exchange rate was $:¥ = 108 and the three-month forward exchange rate was $:¥ = 107.30. The three-month $ interest rate was 5.20 percent per annum and the three-month ¥ interest rate was 1.20 percent per annum.

a. Was interest rate parity holding?

b. Was there an arbitrage possibility? If yes, what steps would have been needed to make

an arbitrage profit? Assuming that the arbitrageur was authorized to work with $1 million

for this purpose, how much would the arbitrage profit have been in dollars?

 
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