EC223 Lecture Notes - Lecture 10: The Foreign Exchange, Canadian Dollar, Purchasing Power Parity

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24 Oct 2016

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Exchange rate the price of one currency in terms of another (ex. Foreign exchange market the financial market where exchange rates are determined. Spot transactions involves the immediate (two-day) exchange of assets. Forward transactions involves the exchange of assets at some specified future date. Spot exchange rate the exchange rate for the spot transaction. Forward exchange rate the exchange rate for the forward transaction. When a country"s currency appreciates, the country"s goods abroad become more expensive and foreign goods in that country become cheaper. When a country"s currency depreciations, its goods become cheaper and foreign goods in that country become more expensive. Law of one price if two countries produce an identical good, and transportation costs and trade barriers are very low, the price of the good should be the same throughout the world no matter which country produces it.

Related Questions

1. In which market will a company arrange to receive currency for a transaction at a future date?

Select one:

a. the forward market

b. the currency futures market

c. the arbitrage market

d. the forward spot market

2. The U.S. dollar is overvalued and the peso is undervalued in the foreign exchange market

Select one:

a. if a visitor to Mexico from the United States can buy more goods in the United States
than he can buy in Mexico when he converts dollars to pesos.

b. if a visitor to Mexico from the United States can buy the same amount of goods in
Mexico as he can buy in the United States when he converts dollars to pesos.

c. if a visitor to Mexico from the United States can buy more goods in Mexico than he can
buy in the United States when he converts pesos to dollars.

d. if a visitor to Mexico from the United States can buy more goods in Mexico than he can
buy in the United States when he converts dollars to pesos.

3. Given the following data (t is current time; t+1 is time after one period)

E_t = Â¥ 110 = $1

E_t+1 = Â¥ 95 = $1

Current Interest rate in the US = i_US= 8%

If the interest parity condition is expected to hold, interest rates in Japan (i_Japan) should equal approximately:

Select one:

a. 3.38%

b. 8%

c. -5.64%

d. None of the above.

4. Suppose the Japanese interest rate is I% while the interest rate in Britain is 3%. Interest rate parity predicts that relative to the Japanese Yen,

Select one:

a. the British pound will depreciate by 4%.

b. the British pound will appreciate by 2%.

c. the British pound will depreciate by 2%.

d. the British pound will appreciate by 4%.

5. Suppose the U.S. grows more slowly than Canada. The best medium term prediction is that the

Select one:

a. U.S. interest rates will rise.

b. U.S. dollar will appreciate against the Canadian dollar.

c. U.S. dollar will depreciate against the Canadian dollar.

6. Purchasing Power Parity (PPP) implies that

Select one:

a. In the long run, a forward exchange rate can purchase an interest rate swap for the same
price as the spot rate.

b. In the medium run, a forward exchange rate can purchase an interest rate swap for the
same price as the spot rate.

c. The short run, a given amount of money can buy the same amount of goods, whether
they are purchased at home or abroad.

d. the long run, a given amount of money can buy the same amount of goods, whether
they are purchased at home or abroad.

7. The current account balance will fall if

Select one:

a. the real exchange rate depreciates and disposable income goes up

b. the real exchange rate appreciates or disposable income goes up

c. the real exchange rate depreciates or disposable income goes down

d. the real exchange rate appreciates and disposable income goes down

8. A person who paid $10 for an umbrella in the U.S. sees the exact same umbrella in a store in London, England for 6 British pounds. If the person could expect the real exchange rate to be 1 U.S. umbrella per 1 English umbrella, then the person could infer that the nominal exchange rate is

Select one:

a. 0.6 U.S. dollars per 1 English pound.

b. 1.67 U.S. dollars per 1 English pound.

c. 0.6 English pounds per I U.S. dollar.

d. 1.67 English pounds per 1 U.S. dollar.

9. A U.S. wine merchant travelling in France has found a French wine of the same quality as a U.S. wine they regularly sell. She assumes that the real exchange rate should be 1 case of U.S. wine equals one case of French wine. The French wine merchant will sell her a case of the French wine for 350 euros. She knows that a case of the equivalent U.S. wine sells for $400. The euro is selling in France for $1.20. Assuming transportation costs are zero, the U.S. wine merchant should

Select one:

a. buy the French wine and sell it in the U.S. and make a profit.

b. buy the U.S. wine and sell it in France and make a profit.

c. It doesn't matter either way; there is no profit in the deal.

d. None of the above.

10. In a fixed exchange rate system, how do countries address the problem of currency market pressures that threaten to lower or raise the value of their currency?

Select one:

a. If demand falls, then countries must increase demand by buying up the excess supply
with domestic currency.

b. If demand rises, countries must fill the excess demand for foreign currency by selling
their reserves.

c. If demand rises, then countries can adjust the value of the exchange rate to the desired
level.

d. A and B only.

1.Purchasing power parity implies that

a. the real exchange rate is equal to 1.

b. the law of one price does not hold.

c. inflation rates are equal across countries.

d. the real exchange rate is equal to 0.

e. if the domestic country has low prices, then the domestic currency will depreciate until foreign citizens can buy the same amount of goods as domestic citizens.

2.Which of the following is a prediction from the PPP model of exchange rates?

A. An increase in the US money supply leads to an appreciation of the dollar in the long run.

B. An increase in US production leads to a depreciation of the dollar.

C. An increase in US production will lead to a proportional increase in the inflation rate.

D, An increase in the US money supply leads to a depreciation of the dollar in the long run.

E.An increase in the US interest rates leads to a fall in prices.

3.Relative purchasing power parity predicts that

A.the difference between the inflation rates in the two countries should equal the ratio of the interest rates in the two countries.

B. the difference between the inflation rates in two countries should equal the per cent change in the exchange rate.

C.inflation rates should be equal across countries.

D.the real exchange rate should equal one.

E.relative price levels in the two countries should be equal when expressed in the same currency.

4.Which of the following is NOT a valid explanation for the failure of purchasing power parity?

a. Differences in monetary policies across countries

b. Lack of competition

c. Transportation costs

d. Trade barriers

5.If P represents (the level of) domestic prices, P* represents (the level of) foreign prices and E represents the exchange rate as units of domestic currency per units of foreign currency, then the real exchange rate equals

a. EP/P*	b. P*/EP
C. E/PP*	d. EP*/P
e. P/P*

6.The difference between nominal and real interest rates is that

A.Nominal interest rates are measured in terms of a country's output, while real interest rates are measured in monetary terms

B.Nominal interest rates are measured in monetary terms, while real interest rates are measured in terms of a country's output

C.Nominal interest rates can fluctuate, while real interest rates always remain fixed

D.Real interest rates can fluctuate, while nominal interest rates always remain fixed

E.Real interest rates are the same in every country, while nominal interest rates are different for every country

7.Which of the following is predicted to cause the value (or price or cost) of U.S. goods to appreciate relative to the value (or price or cost) of foreign goods in the long run?

a. An increase in the growth rate of U.S. GNP. b. A decrease in the growth rate of U.S. GNP.

c. A decline in the growth rate of the U.S. money supply.

d. An increase in the price of petroleum that reduces world demand for American cars. e. An appreciation of the dollar.

jadewallaby469

In the short run, a tighter monetary policy by the U.S. Federal Reserve leads to:

Select one:

a. an increase in the supply of dollars and a dollar depreciation.

b. a decrease in the supply of dollars and a dollar appreciation.

c. an increase in the demand for dollars and a dollar depreciation.

d. a decrease in the demand for dollars and a dollar appreciation.

Which theorem states that exchange rates will adjust until the prices of goods in different countries approximate one another?

Select one:

a. purchasing power parity

b. the law of multiple prices

c. the principle of comparative advantage

d. dollarization

A country's balance of trade is the difference between its:

Select one:

a. nominal and real exchange rates.

b. monetary and fiscal policy.

c. exports and imports.

d. capital inflow and capital outflow.

When a foreign business buys stock in a U.S. company, the U.S. capital account will:

Select one:

a. move in a positive direction.

b. move in a negative direction.

c. remain unchanged.

d. become more volatile.

Saying that the United States is running a large current account deficit is equivalent to saying that:

Select one:

a. exports exceed imports in the United States.

b. the United States is running a large capital account surplus.

c. the balance of payments is negative.

d. the value of the current capital stock in the United States exceeds the value of future capital flows.

10-

An increase in the demand for a country's exports will have what effect on its currency?

Select one:

a. Its value will not change.

b. Its value will increase.

c. Its value will decrease.

d. Its value will depreciate.

11-

When the United States has a current account deficit, the U.S. capital account:

Select one:

a. will have a deficit also.

b. will be balanced.

c. will have a surplus.

d. must be falling.

12-

Which of the following is NOT a way that a country can finance a trade deficit?

Select one:

a. increased borrowing

b. sale of assets

c. decreased exports

d. reduction in cash reserves

13-

A trade deficit occurs when the value of a country's:

Select one:

a. imports exceeds the value of its exports.

b. exports exceeds the value of its imports.

c. inflow of foreign capital exceeds the outflow of domestic capital.

d. outflow of domestic capital exceeds its inflow of foreign capital.

14-

Which of the following is a U.S. current account transaction?

Select one:

a. Selling a computer chip to a resident in Europe.

b. Buying stock shares of a Canadian company.

c. Selling U.S. dollars in exchange for euros.

d. A foreign investor's purchase of a manufacturing plant in the United States.

15-

An exchange rate is:

Select one:

a. a yearly summary of all the economic transactions between residents of one country and residents of the rest of the world.

b. the sum of the balance of trade, net income on capital held abroad, and net transfer payments.

c. the price of one currency in terms of another currency.

d. a currency whose value is not pegged but governments will intervene extensively in the market to keep the value within a certain range.

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EC223 Lecture Notes - Lecture 10: The Foreign Exchange, Canadian Dollar, Purchasing Power Parity

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