QUESTON$1$

Kencana Bhd $($KB$),$ established in $1990,$ has been a successful hotel chain in Malaysia. However,

during the Covid$-19$ pandemic, the business was affected badly, Currently, Malaysia's economy is

recovering from the pandemic. Labout market is improving and unemployment rate is decreasing.

KB has also started to recover from the impact of the pandemic, in the last board meeting, the board

of KB decided to expand the business in Australia. The decision is based on the world economic

outlook that predicts economy to grow in $2024.$

The management of KB has identified one property in Perth, Australia that will be set up as a hotel.

Negotiation to acquire the property is ongoing, whereby the owner of the property has expressed the

intention to sell the property in one year from today. The cost of the property is AUD $1$ million., KB

believed that the purchase of the asset would be materialized, and therefore hedged the purchase

by entering into a one$-$year forward contract to purchase AUD $1$ million.

In $2023,$ the Malaysian economy has expanded moderately. This is due to slower domestic and

external demand.

The prices of goods are still high. Household spending is expected to grow next year with the

growth in employment and wages. This year, Malaysia experiences a $4$ percent inflation rate. The

one$-$year nominal interest rale in Malaysia is $9$ percent. Meanwhile in Australia, the economic growth

in $2023$ has also been modeler. As the real incomes have declined and the cost of living has

escalated. This year Australia experiences a $6$ percent inflation rate. The one$-$year nominal interest

rate in Australia is $5$ percent.

The spot exchange rate of the Australian dollar is RM$29896/$AUD$.$

REQUIRED:

$($a$)$ Discuss how differences in inflation rate and interest rate between Malaysia and Australia will

influence the exchange rate.

$(7$ Marks$)$

$($b$)$ Discuss the condition for interest rate parity to exist between Malaysia and Australia.

$(7$ Marks$)$

$($c$)$ Explain whether covered interest arbitrage is feasible for Malaysian investors if the Australian

dollar's forward rate exhibits a premium of $5$ percent.

$(7$ Marks$)$

$($d$)$Discuss whether the forward premium should change in order to maintain interest rate parity if

Malaysian interest rate decreases to $8$ percent. Assume that the Australian dollar's forward rate

currently exhibits a premium of $3$ percent and that interest rate parity exists.

$(7$ Marks$)$

$($e$)$ Explain the theory of purchasing power parity, and determine the amount of ringgit that KB will

need to exchange for AUD$1$ million in a year according to purchasing power parity. Assume KB does

not purchase the for

forward contract. $(7$ Marks$)$help