Chapter 19 Macroeconomics - Exchange Rates
When countries agree to keep the value of their currencies constant, there is
a fixed exchange rate system.
If the United Kingdom enters into an agreement with other countries to keep the exchange rate among their currencies fixed it is taking part in:
a fixed exchange-rate system
The exchange rates between currencies were determined by the amount of gold in each currency under the gold standard. The gold standard collapsed because
under a gold standard, countries could not control their money supplies.
All of the following ARE expected benefits of the creation of the Euro
The creation of the Euro should reduce costsreduce costs. The creation of the Euro would allow Western European countries to more closely integrate their economies. Having a common currency allow firms to sell across bordersallow firms to sell across borders.
Under the gold standard, if 1 U.S. dollar contained 0.5 ounces of gold and 1 British pound contained 0.8 ounces of gold, the exchange rate between the pound and dollar would have been 1 British pound=
$1.60 .8 / .5 = 1.60
"The company says the weaker yen accounts for 84% of a ¥310.2 billion ($3.1 billion) increase in operating profit." The article reference to a "weaker yen" means that A weaker yen would lead to higher profits for Toyota because proportionately
According to the information in the article, the exchange rate between the yen and the dollar in August 2013 was yen¥99.06 /$ 310.2-3.1 / 3.1 = 99.06 it takes fewer U.S. dollars to buy a yen. less of its production costs are in foreign currencies that have strengthened against the yen.
Suppose that under the gold standard , there was one-fifth of an ounce of gold in a U.S. dollar and one ounce of gold in a British pound and that there is no cost of shipping gold from one country to the other.
If the exchange rate between the dollar and the pound was $4 = pound£1 (one British pound), you could make unlimited profits by buying gold in the United Kingdom and selling it in the United States . If the exchange rate between the dollar and the pound was $6 = pound£1 (one British pound), you could make unlimited profits by buying gold in the United States and selling it in the United Kingdom . The equilibrium exchange rate is $5 = pound£1 (one British pound).
Assume that the Big Mac is selling for $4.56 in the United States. In the table below, fill in the implied exchange rate and then state whether the currency is overvalued or undervalued versus the U.S. dollar. Country Big Mac Price Implied Exchange Rate Chile 2,000 pesos 438.60 pesos/$ Israel 17.5 shekels 3.84 shekels/$ Russia 87 rubles 19.09 rubles/$ New Zealand 5.5 New Zealand $ 1.21 NZ$/$
Implied-Actual/Actual = -undervalued or +overvalued Actual Exchange Rate Overvalued or Undervalued 508.16 pesos/$ undervalued 3.65 shekels/$ overvalued 32.94 rubles/$ undervalued 1.28 NZ$/$ undervalued
Consider this statement: "It usually takes more than 95 yen to buy 1 U.S. dollar and more than 1.5 dollars to buy 1 British pound. These values show that the United States must be a much wealthier country than Japan and that the United Kingdom must be wealthier than the United States." Is this reasoning correct?
The statement is incorrect because wealth is measured by productive capacity and purchasing power, not by the exchange rate
Which of the following describes a managed float exchange rate system?
The value of the currency is determined by supply and demand, with occasional government intervention.
According to the purchasing power parity theory, relative price levels play an important role in determining exchange rates in the long-run. Suppose prices have been rising faster in Japan than in the United States, we then predict that:
The value of the yen must decline.
If the United Kingdom allows it's currency's exchange rate to be determined by supply and demand, with occasional government intervention it is using:
a managed float excahnge system
Under the Bretton Woods system, all of the following were true EXCEPT that
all member countries pledged to buy and sell gold at a fixed price that each country set independently
Under the Bretton Woods system, exchange rates were determined by
an international agreement to fix the value of the dollar in terms of gold and the value of all other currencies in terms of the dollar.
The change in the yen-dollar exchange rate described in the article was __________ for U.S. consumers because they paid____________ for the goods imported from Japan
good news, less
The currency is overvalued The currency is undervalued
if the actual exchange rate is less than the implied exchange rate. if the actual exchange rate is greater than the implied exchange rate. Implied-Actual/Actual = -undervalued or +overvalued
Under the Bretton Woods system, all of the following were true
it was a fixed exchange rate system. all member countries pledged to buy and sell their currencies at a fixed rate against the dollar. no country was willing to redeem its paper currency for gold domestically.
Capital controls are
limitations on the flow of foreign exchange and financial investment between countries.
One advantage of a fixed exchange rate system is that it
reduces uncertainty for businesses about the value of a currency
The implied exchange rate shows
what the exchange rate would be if purchasing power parity held for that particular good or service.
The Bretton Woods system operated by
fixing the value of the dollar in terms of gold and fixing all other currencies in terms of the dollar.
Under the gold standard, exchange rates were determined by
the relative amounts of gold in each country's currency
If a country pegs its exchange rate with the dollar below the equilibrium value,
there will be an excess demand for that country's currency.
What is an exchange rate system? Under a fixed exchange rate system, exchange rates are determined by Under a managed float system, exchange rates are determined by .
An agreement between countries on how exchange rates should be determined. an agreement between countries supply and demand plus government intervention
Which of the following best explains why higher inflation will cause the Australian dollar to depreciate relative to the New Zealand dollar?
If prices of goods and services rise faster in Australia than in New Zealand, the value of the Australian dollar has to decline to maintain the demand for Australian products
When the Thai government pegged the baht against the dollar, a surplus of baht flooded the foreign exchange markets. This occurred because the baht was pegged too high in value against the dollar. As a result, the Thai central bank did what?
Increased interest rates. Borrowed dollars from the International Monetary Fund. Bought the surplus with dollar reserves.
According to the theory of purchasing power parity , if the inflation rate in Australia is higher than the inflation rate in New Zealand, what should happen to the exchange rate between the Australian dollar and the New Zealand dollar?
The Australian dollar will depreciate relative to the New Zealand dollar.
Purchasing power parity
The theory that in the long run, exchange rates move to equalize the purchasing powers of different currencies.
Destabilizing speculation is Destabilizing speculation played a role in the demise of the Bretton Woods system because investors sold currencies they believed to be overvalued and purchased currencies that they believed to be undervalued , making it difficult to maintain fixed rates.
actions by investors that make it more difficult to maintain a fixed exchange rate
If a Big Mac is selling in the United States for $3.45, what is the implied exchange rate between each of the currencies in the table? Country Big Mac Price Implied Actual Exchange Rate Exchange Rate Brazil 7.40 reais 2.14 reais/ dollar 1.58 reais/ dollar Poland 7.10 zlotys 2.06 zlotys/dollar 2.03 zlotys/dollar S Korea 3,150 won 913.04 won/dollar 1,018won/dollar C Republic 65.10 korunas 18.87 korunas/dollar 14.5korunas/dollar
According to your results, the U.S. dollar is overvalued against the South Korean won and undervalued againt the Brazilian reais
Implied Ex Rate =
Price in other country / Price in US To calculate the implied exchange rate, divide the foreign currency price of the good by the U.S. price of the good.
In 1997, the pegged $/baht rate was 0.04 $/baht, but the equilibrium exchange rate was estimated to be 0.03 $/baht. An investor could have made a profit by doing which of the following?
Selling baht at the official rate, expecting to buy them back in the future when the baht was allowed to depreciate
All of the following are expected benefits of the creation of the Euro, EXCEPT which?
The participating countries are no longer able to conduct independent monetary policies.
The theory of purchasing power parity states that the long-run level of the exchange rate must
make it possible to buy equivalent bundles of goods in either country. The theory of purchasing power parity does NOT explain exchange rates well in the long run.
The following table shows prices of Big Macs, implied exchange rates, and actual exchange rates. Indicate which countries listed in the table have undervalued currencies versus the U.S. dollar and which have overvalued currencies. Country Big Mac Price Implied Exchange Rate Mexico 37 pesos 8.11 pesos/$ Japan 320 yen 70.18 yen/$ United Kingdom 2.69 pounds 0.59 pound/$ Switzerland 6.5 Swiss francs 1.43 Swiss francs/$ Indonesia 27,939 rupiahs 6,127 rupiahs/$ Canada 5.53 Canadian dollars 1.21 Canadian dollars/$ China 16 yuan 3.51 yuan/$
Implied-Actual/Actual = -undervalued or +overvalued Actual Exchange Rate + Overvalued or -Undervalued 12.94 pesos/$ undervalued 100.11 yen/$ undervalued 0.67 pound/$ undervalued 0.97 Swiss francs/$ overvalued 9,965 rupiahs/$ undervalued 1.05 Canadian dollars/$ overvalued 6.13 yuan/$ undervalued
A car costs $25,000 in the United States and 3,000,000 yen in Japan. The exchange rate is $1 = 104 yen.
The purchasing power parity of the dollar is 119 yen 3,000,000 - 25,000 / 25,000 = 119
A country that allows demand and supply to determine the value of its currency has
a floating currency.
The change in the yen-dollar exchange rate described in the article was __________ for Japanese consumers who buy goods imported from the United States because they paid ___________ for U.S. goods.
bad news, more
The four determinants of exchange rates in the long run are
relative price levels, relative productivity growth, tastes, and trade barriers.
