Exchange rate formulas: spot rates, forward rates, cross rates, and covered interest rate parity. How to calculate forward exchange rates with examples.
Direct: domestic per foreign (e.g., 1.25 USD/EUR). Indirect: foreign per domestic. Price/Base convention: P/B.
Dealer buys at bid, sells at ask. Spread = ask - bid. Always buy high (ask) and sell low (bid) from YOUR perspective.
Exchange rate between two currencies derived through a third. A/C = (A/B) × (B/C).
Rate agreed today for exchange in the future. Forward premium: forward > spot. Forward discount: forward < spot.
Forward premium/discount reflects interest rate differential. Eliminates arbitrage between money markets and FX forwards.
Exploiting mispricing among three currency pairs. If cross rate differs from market rate, profit is possible.
Cross Rate
Where: Multiply rates to find the cross rate
Forward Rate (CIP)
Where: F = forward, S = spot, r = interest rate for the period
Forward Premium/Discount
Where: Annualized forward premium
Bid-Ask with Cross Rates
Where: Take bid of bid, ask of ask for cross
GDP (Expenditure)
Consumption + Investment + Government + Net Exports
Fiscal Multiplier
MPC = marginal propensity to consume
Quantity Theory of Money
Money supply × Velocity = Price level × Real output
Fisher Equation
Exact: (1+nom) = (1+real)(1+inf)
Elasticity of Demand
|E| > 1: elastic, |E| < 1: inelastic
No-Arbitrage Forward Rate
Interest rate parity
Real Exchange Rate
Adjusting for price levels
Use when:
Avoid when:
If the USD/EUR spot rate is 1.10 and the 1-year US interest rate exceeds the EUR rate, the forward USD/EUR rate will be:
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