Exercise 1.15. = - = = Consider a simple financial model with two times t O and t = 1. There is a domestic currency A and a foreign currency B. The initial exchange rate is E2.0 = 2.5, i.e. one can exchange any amount of currency A for B (or B for A) at time 0 at the rate of 2.5 units of A for 1 unit of B. (No fees are charged to make an exchange.) There is a bank at which one can borrow or invest any amount of A between t O and t=1 at the domestic one-period interest rate ra= .06. There is also a bank at which one can borrow or invest any amount of B between t : 0 and t 1 at the foreign one-period rate rb. The forward exchange rate for delivery date 1 is FR = 2.36, i.e. it costs nothing at time 0 to enter into an agreement to purchase 1 unit of B at time 1 for F units of A. (An agent who enters this agreement is obligated to make the purchase at time 1.) Assuming that there is no arbitrage, find the foreign interest = a = = rate r B