3. Making Informed Decisions: Forecasting FX. Forecasting foreign-exchange rates are notoriously difficult, especially in the short-run. Propose a methodology and assess how well BMW Group has been doing in this regard.

(a) Define and give an example of absolute and relative purchasing power parity in the context of BMW's North-American operations, respectively. How can BMW use PPP to improve on its FX forecasting?

(b) Are implied forward rates good predictors of future spot rates? Explain their predict power or absence thereof in the context of BMW's forecasts by computing implied forward rates, comparing them to the Group's forecast, and assessing their quality as a predictor for future spot rates.

(c) Given the data provided in the case, what do you think about BMW's forecasts?

(d) In light of BMW's FX forecast, what seems the treasury division expect with regards to the USD in 2007? How will the forecast FX change affect BMW Group's financial position?

(e) Bonus problem. How does the Law of One Price provide information on BMW's competitive position? Taking USD-based car makers as a reference, construct a numerical example to assess EUR-based BMW's competitive position given current FX rates.