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GOV 312L Study Guide - Midterm Guide: Current Account, United States Dollar, Capital Account

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yellowcricket86
7 Dec 2018
School
UT-Austin
Department
Government
Course
GOV 312L
Professor
Moser

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Document Summary

The free flow of capital and goods across international borders. Reflect differences in value of respective currencies; price of one currency in terms of another. Price at which one currency can be traded for another. Indicates the relative value of two currencies. As $ appreciates (goes up in value), it can buy more units of a foreign currency. As $ depreciates (goes down in value), it buys fewer units of a foreign currency. Dollar appreciates relative to euro from 2014 to 2015. Care about exchange rates = influence aggregate trade flows among economies (exports and imports) Ex: when the dollar appreciates, imports are cheaper (bought by more valuable $) and tend to increase and hurts exports (vice versa when the dollar depreciates) Us accuses china of driving their currency down, which pushes the. American dollar up, this stimulates more exports from china to american consumers which can display american manufacturers. Trade deficit (also known as current account deficit)

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Related Questions

Which of the following statements is accurate in regards to the US dollar:

A.

The central bank is responsible for printing the domestic currency and the value of the currency is adjusted to maintain a fixed level to another currency.
B.

The central bank has no ability to print the domestic currency and dollarization was adopted to minimize domestic inflation.
C.

Banks are responsible for printing the domestic currency and there is a floating exchange rate.
D.

The central bank (e.g. Federal Reserve) is responsible for printing the domestic currency and there is a floating exchange rate.

Suppose that monetary policy in the United States leads to an increase in interest rates relative to those in Japan. Which of the following will occur in the capital account:

A.

The demand for yen will increase.
B.

The dollar will appreciate relative to the yen.
C.

The supply of dollars will increase.
D.

The dollar will depreciate relative to the yen.

An expansionary monetary policy by the Fed would tend to:

A.

Lower the U.S. inflation rate, make exports cheaper, make imports more expensive, and raise the value of the dollar.
B.

Raise the U.S. inflation rate, make exports more expensive, make imports cheaper, and lower the value of the dollar.
C.

Raise the U.S. inflation rate, make exports cheaper, make imports more expensive, and raise the value of the dollar.
D.

Lower the U.S. inflation rate, make exports more expensive, make imports cheaper, and lower the value of the dollar.

5-

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.

6-

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

7-

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.

8-

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.

9-

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.

Short- and Long-Run Exchange Rate Risk Exercise

Worksheet (v1.2)

In this exercise you are asked to choose a currency in which it is assumed you have foreign exchange exposure both in trade (short-run) and investment (long-run). In this exercise you are asked to find both spot and forward exchange rates for a chosen currency and also inflation rates associated with that currency. You are encouraged to read through the exercise first before choosing your currency to ensure the requested data is accessible via the links provided.

Short-Run Exchange Rate Risk

Assume you have a trade receivable denominated in a foreign currency of your choice that is payable to you by your customer in 6 months. At the current spot rate the trade receivable is worth the equivalent of US$5,000,000. To find the current spot rate for the chosen currency pair go to http://www.hsbcnet.com/gbm/fxcalc-disp.[1] Enter 5,000,000 in the “Convert” box, United States dollar in the “From:” box, and your chosen currency in the “To:” box. Click on “Go” for the spot rate, which will be expressed in European terms, that is, units of foreign currency per one US dollar. Enter the name of the chosen currency, the date the site is accessed, and the spot rate in European terms in the table below.

To find a 180 day forward rate for the currency pair, go to http://www.hsbcnet.com/gbm/fwcalc-disp#. For “Amount” you can just enter 1 and enter US dollars in the “Buy” box and the foreign currency in the “Sell” box. For “Value Date” enter “6 Months” and click “Go” for the forward rate. (Clicking on the Inverse box will switch the rate from European to American terms.) Enter the one-year forward rate in the table below. Make sure the forward rate is expressed in the same way as the forward rate, that is, in European terms.

Foreign Currency

Date

Current Spot Rate in European terms: FX per 1 US dollar

Six -Month Forward Rate in European terms: FX per 1 US dollar

Based on the data above, answer the following questions:

At the current spot rate how much in the foreign currency are you owed in 6 months?

Assuming you fully hedge your FX exposure in the forward market, how many US dollars will you receive in 6 months?

Is the foreign currency selling in the forward market at a premium, i.e. it appreciates relative to the spot rate, or a discount, i.e., it depreciates relative to the spot rate? Provide numbers to support your answer.

Long-Run Exchange Rate Risk

Assume you have undertaken a 3-year investment abroad with expected cash flows denominated in your chosen currency. At the current spot rate those cash flows are expected to provide a positive net present value (NPV) in US dollar terms. Based on relative purchasing power parity you are asked to estimate future spot rates over the next three years based on comparative inflation data.[2] With that data complete the table below.

S0 = Current Spot Rate in European Terms (Foreign currency per US dollar)

E(St) = Expected Exchange Rate Spot Rate in t Years in European Terms (Foreign currency per US dollar)

hUS= Annual Inflation Rate in the United States

hFC = Annual Foreign Country Inflation Rate

Using the data above and textbook equation (18.3) E(St) = S0 ∙ [1 + (hFC - hUS)]t and assuming the estimated inflation rate in Year 1 also holds for Years 2 and 3, please respond to the following:

Based on relative purchasing power parity, estimate S1.

Based on relative purchasing power parity, estimate S2.

Based on relative purchasing power parity, estimate S3.

Based on relative purchasing power parity, has the foreign currency appreciated or depreciated against the US dollar? Explain.

Based on relative purchasing power parity, has the NPV of the investment project increased or decreased in US dollar terms? Explain.

[1] Please note currencies are grouped according to their region: Americas (where the United States dollar may be found), Asia-Pacific, Europe, and MENA. Please advise your instructor should this or any other link in the assignment be broken.

[2] Sources of Inflation data include http://stats.oecd.org/ for OECD countries and http://data.worldbank.org/indicator/FP.CPI.TOTL.ZG at the World Bank site. It is viewed important to be consistent in the definition and source of inflation numbers for the US and the other currency that you use for the relative PPP equation. The most basic definitions of inflation are consumer price index (CPI), producer price index (PPI), and GDP deflator. Estimates of the next year’s inflation are preferred but it is also common to use the past year’s inflation as the best estimate of next year’s and subsequent years’ inflation. You are encouraged to share any useful websites for this data you find with the class.