In Econ Chapter 18 I have a question for number 15 and 16. In number 15, the pound was overvalued relative to the yen, so we used the yen to buy the pound. In number 16, the SFR was overvalued relative to the Aust, so the book says we need to sell the SFRs to buy the Austrailian dollar. What I do not understand is, when you are finding the profit from arbitrage, why can’t I buy the Austrialin dollar 1st and then Sell the SFRS? Why isn’t it the same as 1st selling the SFRS and then buying the Austrailian dollar? When I try doing it this way I dont come out to having the same arbitrage profit. Please help,
In number 15 the pound is UNDERVALUED relative to the yen, so you wanna buy low and sell high, i.e. sell yen (overvalued) and buy pounds (undervalued) and then convert back to get your profit. Same logic goes for 16 - the SF is overvalued so u sell it - if you were to use USD to buy AUD and then sell those AUD then you have effectively sold the undervalued currency.
thanks that helped so much