Suppose that interest rates on Eurodollars and Euro francs (swiss) follow a flat yield curve and are 12% and 7% per annum respectively. You are given that inflation in Switzerland is at 4% and the current spot rate for the Swill franc is $0.3985.

1. Give an estimate of the inflation figure in the United States.

 Further information is obtained, showing that the price level is US$6,500 in the United States and SFr15,500 in Switzerland. Use the implied absolute-PPP exchange rate for US$/SFr to explain why one currency is undervalued relative to the other.

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a first we have to calculate real rate in switzerland Real ... View the full answer