Morning Star Air (China). Morning Star Air, headquartered in Kunming, China, needs US$23 comma 000 comma 000 for one year to finance working capital. The airline has two alternatives for borrowing: a. Borrow US$23 comma 000 comma 000 in Eurodollars in London at 7.15% per annum b. Borrow HK$181 comma 481 comma 500 in Hong Kong at 6.90% per annum, and exchange these Hong Kong dollars at the present exchange rate of HK$7.8905/US$ for U.S. dollars. At what ending exchange rate would Morning Star Air be indifferent between borrowing U.S. dollars and borrowing Hong Kong dollars? Morning Star Air would be indifferent between borrowing U.S. dollars and borrowing Hong Kong dollars if the ending exchange rate is HK$ 7.8905/US$.
The ending exchange rate is the arbitrage-free forward exchange rate.
Arbitrage-free forward exchange rate = present exchange rate * (1 + annual Hong Kong dollar interest rate) / (1 + annual US dollar interest rate)
Arbitrage-free forward exchange rate = 7.8905 * (1 + 6.90%) / (1 + 7.15%)
Arbitrage-free forward exchange rate = HK$ 7.8721/US$
Morning Star Air (China). Morning Star Air, headquartered in Kunming, China, needs US$23 comma 000 comma...