ECON 2301 - Chapter 9

The ___________ account records foreign investment in the United States minus U.S. investment abroad.

capital and financial

Given the U.S. dollar exchange​ rate, we find the Canadian dollar exchange rate by​ ______.

dividing 1 by the U.S. dollar exchange rate

A crawling peg exchange rate policy is one that​ _______. A crawling peg exchange rate is achieved​ _______.

follows a path determined by a decision of the government or the central​ bank; by central bank intervention in the foreign exchange market

The official settlements account records the change in U.S. official​ reserves, which are the​ government's holdings of​ ______. If U.S. official reserves increase​, the official settlements account balance is​ ______.

foreign​ currency; negative

Foreign currency is the money​ _____ regardless of whether that money is in the form of​ notes, coins, or bank deposits.

of other countries

An exchange rate is the​ _____ at which one currency exchanges for another in the foreign exchange market.

price

If a surplus of U.S. dollars occurs in the foreign exchange​ market, the​ _______ and the exchange rate​ _______.

quantity of U.S. dollars demanded increases and the quantity of U.S. dollars supplied​ decreases; falls

The exports effect is the result that the lower the exchange​ rate, other things remaining the​ same, the​ ______.

lower are the prices of​ U.S.-produced goods and services to foreigners and the greater is the volume of U.S. exports

If a U.K. bank deposit earns 4 percent a year and a U.S. bank deposit earns 5 percent a​ year, then people expect that​ ______.

the U.S. dollar will depreciate by 1 percent a year People expect the U.S. dollar to depreciate by 1 percent a year. U.S. investors expect that if they buy and hold U.K. pounds for a​ year, they will earn 4 percent interest and 1 percent from the higher pound​ (lower dollar) to give a total return of 5 percent a year.

In the short​ run, the nominal exchange rate is determined by​ ______. And in the short run​ ______.

the demand for U.S. dollars and the supply of U.S. dollars in the foreign exchange​ market; a change in the nominal exchange rate brings an equivalent change in the real exchange rate (In the short​ run, the nominal exchange rate is the exchange rate that sets the quantity of U.S. dollars demanded equal to the quantity of U.S. dollars supplied. The real exchange rate is given by the equation RER​ = ​(E×P​)/P​*. If we are dealing with the real Japanese yen exchange​ rate, then E is the exchange rate​ (yen per U.S.​ dollar), P is the U.S. price level and P​* is​ Japan's price level. In the short​ run, price levels in the United States and Japan​ don't change every time the nominal exchange rate changes. So a change in E brings an equivalent change in RER.)

The main influences on the supply of U.S. dollars in the foreign exchange market include​ ______.

the exchange​ rate, U.S. demand for​ imports, interest rates in the United States and other​ countries, and the expected future exchange rate

The foreign exchange market is the market in which​ _____ of one country is exchanged for​ _____ of another.

the​ currency; the currency

Arbitrage is the practice of seeking to profit by​ _____ in one market and​ _____ in another related market.

​buying; selling for a higher price

Between 1997 and​ 2005, China operated a​ _______ exchange rate. Since​ 2005, China has operated a​ _________ exchange rate.

​fixed; crawling peg

How are net exports and the government sector balance​ linked? Net exports equals​ ______.

(T − G​) ​+ ​(S− I​)

Graphs and etc.

A change in the exchange rate, other things remaining the same, brings a change in the quantity of U.S. dollars demanded and a movement along the demand curve. other things remaining the same, a rise in the exchange rate increases the quantity of US dollars supplied and a fall in the exchange rate decreases the quantity of US dollars supplied

Choose the correct statement about interest rate parity. A. Adjusted for risk, interest rate parity always prevails. B. Interest rate parity means that interest rates in the world's major economies never change. C. If a higher interest rate is available in Tokyo than in New York, the demand for U.S. dollars increases. D. Interest rate parity means equal value of money.

A. Adjusted for risk, interest rate parity always prevails.

In November​ 2015, the exchange rate was 122 yen per U.S. dollar. By November​ 2016, the exchange rate had fallen to 111 yen per U.S. dollar. Explain the exports effect of this change in the exchange rate.

As the exchange rate falls​, prices of​ U.S.-produced goods and services to foreigners​ ______ and the volume of U.S. exports​ ______. fall​; increase

In November 2015​, the exchange rate was 0.93 euros per U.S. dollar. By November 2016​, the exchange rate had risen to 0.94 euros per U.S. dollar.

Given the information​ above, for a given expected future exchange​ rate, the expected profit from holding U.S. dollars is​ _______. smaller in November 2016 than in November 2015 The quantity of U.S. dollars demanded is​ ______ in November 2016 than in November 2015. And the quantity of U.S. dollars supplied is​ ______ in November 2015 than in November 2016. smaller; smaller

Exports Effect

The larger the value of U.S. exports, the larger is the quantity of U.S. dollars demanded by the buyers of U.S. exports in the foreign exchange market. if the exchange rate falls (and other influences remain the same), the quantity of U.S. dollars demanded in the foreign exchange market increases.

Imports Effect

The larger the value of U.S. imports, the larger is the quantity of U.S. dollars supplied in the foreign exchange market. But the value of U.S. imports depends on the prices of foreign-produced goods and services expressed in U.S. dollars. These prices depend on the exchange rate. The higher the exchange rate, other things remaining the same, the lower are the prices of foreign-produced goods and services to Americans and the greater is the volume of U.S. imports. (So if the exchange rate rises (and other influences remain the same), the quantity of U.S. dollars supplied in the foreign exchange market increases.)

Expected Profit Effect (supply)

This effect works just like that on the demand for the U.S. dollar but in the opposite direction. The higher the exchange rate today, other things remaining the same, the larger is the expected profit from selling U.S. dollars today and holding foreign currencies, so the greater is the quantity of U.S. dollars supplied in the foreign exchange market.

The real exchange rate is the relative price of​ _____ to​ _____.

US-produced goods and​ services; foreign-produced goods and services

You can purchase a laptop in Montreal for 1,050 Canadian dollars. If the exchange rate is 1.25 Canadian dollars per U.S. dollar and if purchasing power parity​ prevails, at what price can you buy an identical computer in​ Dallas, Texas?

You can buy an identical computer in​ Dallas, Texas for ​$840. (1/1.25)=.8 1,050x.8=840

China makes its choice of exchange rate regimes to​ _______.

control its inflation

A ___________ is a country that during its entire history has borrowed more from the rest of the world than it has lent to the rest of the world.

debtor nation

Interest rate parity is​ __________. When this condition does not hold​ _______.

equal rates of return across​ currencies; traders take actions within seconds that drive the exchange rate back to its interest rate parity level

Interest rate parity​, which means​ _____ across​ currencies, means that for risk free​ transactions, there is​ _____ gain from choosing one currency over another.

equal rates of​ return; no

A flexible exchange rate is one that​ _______. It works​ _______.

is determined by demand and supply in the foreign exchange​ market; with no direct intervention by the central bank

The​ ______ account records receipts from exports of goods and services sold​ abroad, payments for imports of goods and services from​ abroad, and​ ______.

​current; net interest income paid abroad and net transfers

Is the United States a net borrower or a net​ lender? Is it a debtor or a creditor​ nation? The United States is​ ______.

a net borrower and a debtor nation

Purchasing power parity is​ _______.

equal value of money

The​ ______ account records​ ______ U.S. investment abroad

capital and​ financial; foreign investment in the United States minus

A _____________is a country that during its entire history has invested more in the rest of the world than other countries have invested in it.

creditor nation

Other things remaining the same, the higher the exchange rate, the smaller is the quantity of U.S. dollars demanded in the foreign exchange market.

n/a

If U.S. official reserves​ increase, the official settlements account balance is __________

negative

A ___________ is a country that is borrowing more from the rest of the world than it is lending to the rest of the world.

net borrower

A _______________is a country that is lending more to the rest of the world than it is borrowing from the rest of the world.

net lender

The ____________ account records the change in U.S. official reserves.

official settlements

The U.S. dollar exchange rate fluctuates in part because a change in the U.S. interest rate differential changes the demand for U.S. dollars and the supply of U.S. dollars in​ ______ and a change in the expected future exchange rate changes the demand for U.S. dollars and the supply of U.S. dollars in​ ______.

opposite​ directions; opposite directions A rise in the U.S. interest rate differential increases the demand for U.S. dollars and decreases the supply of U.S. dollars. The exchange rate rises. A fall in the U.S. interest rate differential decreases the demand for U.S. dollars and increases the supply of U.S. dollars. The exchange rate falls. A rise in the expected future exchange rate increases the demand for U.S. dollars and decreases the supply of U.S. dollars. The exchange rate rises. A fall in the expected future exchange rate decreases the demand for U.S. dollars and increases the supply of U.S. dollars. The exchange rate falls.

If the US interest rate is 1.5 per​ cent, Canada's interest rate is 1 per​ cent, the US inflation rate is 1.2 per cent and​ Canada's inflation rate is 0.70 per​ cent, then calculate the US interest rate differential.

0.5 per cent The US interest rate differential is the US interest rate minus the foreign interest rate. If the US interest rate is 1.5 per cent and​ Canada's interest rate is 1 per​ cent, then the US interest rate differential is​ (1.5 -​ 1) per cent​ = 0.5 per cent.

The United​ States, Debtor Nation The United States is a debtor​ nation, and for most of the past 30 years it has been piling up large trade deficits. The current account has now reached a deficit of 6 percent of​ GDP, and must be financed by capital inflows. Foreigners must purchase large amounts of U.S.​ assets, or the current account deficit cannot be financed. ​Source: Asia Times​, September​ 28, 2006 Explain why a current account deficit​ "must be financed by capital​ inflows." Under what circumstances should the debtor nation status of the United States be a​ concern?

A current account deficit​ "must be financed by capital​ inflows" because​ _______. to pay for the U.S. current account​ deficit, the United States must either borrow more from abroad than we lend abroad or use U.S. official reserves The debtor nation status of the United States would be a concern if the borrowed funds were used to finance​ ______. consumption

What makes an exchange rate hard to​ predict? Choose the correct sentence. A. Influences of expectations and the constant arrival of news about the influences on supply and​ demand, make​ day-to-day and​ week-to-week changes in the exchange rate difficult to predict. B. Changes in the expected future exchange rate generally change the supply of U.S. dollars in the foreign exchange market by more than the​ demand, but it is impossible to know by how much. C. A movement away from interest rate parity sometimes influences traders to act and sometimes does​ not, and it is difficult to know when traders will react. D. Changes in the interest rate​ differential, which generally change the demand for U.S. dollars in the foreign exchange market by more than the​ supply, are difficult to predict because it requires predicting changes in foreign interest rates.

A. Influences of expectations and the constant arrival of news about the influences on supply and​ demand, make​ day-to-day and​ week-to-week changes in the exchange rate difficult to predict.

Choose the correct statement about interest rate parity. A. If a higher interest rate is available in New York than in Tokyo, the demand for Japanese yen increases. B. Interest rate parity implies that $100 U.S. can buy the same quantity of goods and services in New York as $100 U.S. can buy in Moscow. C. Interest rate parity means that for risk-free transactions, there is no gain from choosing one currency over another. D. Interest rate parity means that interest rates in the world's major economies are the same

C. Interest rate parity means that for risk-free transactions, there is no gain from choosing one currency over another.

On June 23, 2016 the U.S. dollar was trading at 0.68 U.K. pounds per dollar on the foreign exchange market. On June 25, 2016​, the U.S. dollar was trading at 0.76 U.K. pounds per dollar. What events could have brought this change in the value of the U.S.​ dollar? Did the events​ you've described change the demand for U.S.​ dollars, the supply of U.S.​ dollars, or both demand and supply in the foreign exchange​ market?

Check this: https://photos.app.goo.gl/5WPBA3GbPwMSzgun7 The events in the foreign exchange​ market, everything else remaining the same that could have resulted in this change in the value of the U.S. dollar include​ _______. an increase in the U.S. interest rate and a rise in the expected future exchange rate of the U.S. dollar (When there is an increase in the U.S. interest rate​, the value of the U.S. dollar on the foreign exchange market appreciates. And when there is a rise in the expected future exchange rate of the U.S. dollar​, the value of the U.S. dollar on the foreign exchange market appreciates.) These events that resulted in this change in the value of the U.S. dollar changed​ _______. both the demand for dollars and the supply of dollars (When an increase in the U.S. interest rate and a rise in the expected future exchange rate of the U.S. dollar ​occur, both the demand for U.S. dollars and the supply of U.S. dollars change.)

The U.S. dollar exchange rate increased from ​$0.89 Canadian in June 2009 to ​$0.96 Canadian in June 2010​, and it decreased from 83.8 euro cents in January 2009 to 76.9 euro cents in January 2010. What was the value of 100 euro cents in terms of U.S. dollars in June 2009 and June 2010​? Did the euro appreciate or depreciate against the U.S. dollar over the year June 2009 to June 2010​?

In January 2009​, the value of 100 euro cents was 1.19 U.S. dollars. (100÷83.8 cents per U.S.​dollar) In January 2010​, the value of 100 euro cents was 1.30 U.S. dollars.(100÷76.9 cents​) The euro APPRECIATED against the U.S. dollar over the year January 2009 to January 2010.

The U.S. dollar exchange rate increased from ​$0.96 Canadian in June 2011 to ​$1.03 Canadian in June 2012​, and it decreased from 81 Japanese yen in June 2011 to 78 Japanese yen in June 2012. What was the value of the Canadian dollar in terms of U.S. dollars in June 2011 and June 2012​? Did the Canadian dollar appreciate or depreciate against the U.S. dollar over the year June 2011 to June 2012​?

In June 2011​, the value of the Canadian dollar was ​$1.04 U.S. (1÷$0.96​) In June 2012​, the value of the Canadian dollar was ​$.97 U.S.(1÷$1.03​) The Canadian dollar DEPRECIATED against the U.S. dollar between June 2011 and June 2012.

The Federal Reserve in the International Sphere Under the flexible exchange​ rates, the main aim of Federal Reserve foreign currency operations has been to counter disorderly conditions in exchange markets through the purchase or sale of foreign currencies. During some episodes of downward pressure on the foreign exchange value of the​ dollar, the Federal Reserve has purchased dollars​ (sold foreign​ currency) and has thereby absorbed some of the selling pressure on the dollar.​ Similarly, the Federal Reserve may sell dollars​ (purchase foreign​ currency) to counter upward pressure on the​ dollar's foreign exchange value. ​Source: Board of Governors of the Federal Reserve System How does U.S. exchange rate policy described above differ from that of the 1950s and​ 1960s? Explain how the Fed​ "counters disorderly conditions in exchange​ markets." Explain why a currency can experience​ short-run fluctuations and how the Fed counters them. Illustrate with a graph.

In the 1950s and​ 1960s, the United States operated a​ ______. Now the United States operates a​ ______. fixed exchange​ rate; flexible exchange rate The world economy​ (including the United​ States) operated a fixed exchange rate regime from the end of World War II to the early 1970s. Under the fixed exchange rate​ regime, the Fed would intervene in the foreign exchange market to block any changes in demand or supply. Since that​ time, the United States​ (and most other countries​ ) have operated a flexible exchange rate. The Fed intervenes only to​ "counter disorderly​ conditions." The Fed​ "counters disorderly conditions in exchange​ markets" by​ _______. purchasing foreign​ reserves, which lowers the U.S. exchange rate when the demand for dollars dramatically increases A currency can experience​ short-run fluctuations because​ ______. The Fed counters the​ short-run fluctuations by​ _________. the currency can fluctuate based on beliefs about the future exchange​ rate; buying and selling U.S. dollars and foreign exchange Graphing: The graph shows the market for U.S. dollars. People expect the exchange rate to fall. Draw the new demand curve. Label it. Draw the new supply curve. Label it. Draw a point at the new equilibrium exchange rate and equilibrium quantity of U.S. dollars. https://photos.app.goo.gl/LyRPmQRUAQhibE3eA

If a euro deposit in France earns 3.7 percent a year and a yen deposit in Japan earns 1.9 percent a​ year, all other things remaining the​ same, what is the exchange rate expectation of the Japanese yen against the E.U.​ euro? The Japanese yen exchange rate is expected to _____________ against the euro by ________ percent.

The Japanese yen exchange rate is expected to APPRECIATE against the euro by 1.8 percent. (3.7-1.9) When the interest rate earned on a euro deposit is greater than the interest rate earned on a yen ​deposit, then it must be the case that the yen is expected to appreciate so that interest rate parity will hold. If euro investors hold a yen​ deposit, they will earn 1.9 percent a year and the yen will appreciate by 1.8 percent so that the rate of return is the same as they would have earned holding a euro deposit.

The U.K. pound is trading at 1.50 U.S. dollars per U.K. pound and purchasing power parity holds. The U.S. interest rate is 1 percent a year and the U.K. interest rate is 2.5 percent a year. Calculate the U.S. interest rate differential. What is the U.K. pound expected to be worth in terms of U.S. dollars one year from​ now? Which country more likely has the lower inflation​ rate? How can you​ tell?

The U.S. interest rate differential is negative −1.5 %. (1% − 2.5%, which is −1.5%) A year from​ now, the U.K. pound is expected to DEPRECIATE by 1.5 percent. _______ most likely has the lower inflation rate because in the long run for a given real exchange​ rate, _______. The United States; the country with the appreciating currency has the lower inflation rate

The table gives some information about Nordland's international transactions. Calculate the balance on the three balance of payments accounts. Was Nordland a net borrower or a net​ lender? Explain your answer. Imports of goods and services: 1,000 Foreign investment in Nordland: 1,100 Exports of goods and services: 1,350 Nordland's investment abroad: 600 Net interest income: 4 Net transfers: −10 Statistical discrepancy: −20

The current account balance is 344 billion dollars. (The current account balance equals the sum of exports minus​ imports, net interest​ income, and net transfers. The current account balance equals ​$1,350 billion−​$1,000 billion ​+$4 billion−$10 ​billion, which is $344 billion.) The capital and financial account balance is 480 billion dollars. (1100-600-20) The official settlements account balance is -824 billion dollars. (344+480+x=0 -> x=-824) Nordland's official reserves are INCREASING. (If U.S. official reserves increase, the official settlements account balance is negative.) Nordland is a​ _______ because foreign investment in Nordland ​_______ Nordland's investment abroad. net borrower; exceeds

On June​ 1, 2015, the exchange rate was 101 yen per U.S. dollar. During that​ day, the Fed made a surprise announcement that it would raise the interest rate next month by 1 percentage point. At the same​ moment, the Bank of Japan announced that it would lower the interest rate next month. On June​ 2, 2015, the exchange rate was 99 yen per U.S. dollar.

The demand for U.S. dollars would​ _____ and the supply of U.S. dollars would​ _____ on June 2. increase, decrease The Bank of​ Japan's announcement would​ _____ the demand for U.S. dollars and​ _____ the supply of U.S. dollars on June 2. ​increase; decrease The two announcements on the U.S.​ dollar-yen exchange rate would​ _____ the U.S. dollar. appreciate (Key Point​: An increase in demand and a decrease in supply have the same effect on​ price: They raise the price. The exchange rate is a price.) On June​ 2, the U.S. dollar depreciated rather than appreciated because a fall in U.S.​ _____ decreased the demand for U.S. dollars or an increase in U.S.​ _____ increased the supply of U.S. dollars. ​exports; imports

Expected Profit Effect (demand)

The larger the expected profit from holding U.S. dollars, the greater is the quantity of U.S. dollars demanded in the foreign exchange market. But expected profit depends on the exchange rate. For a given expected future exchange rate, the lower the exchange rate today, the larger is the expected profit from buying U.S. dollars today and holding them, so the greater is the quantity of U.S. dollars demanded in the foreign exchange market today. The lower the exchange rate today, other things remaining the same, the greater is the expected profit from holding U.S. dollars, so the greater is the quantity of U.S. dollars demanded in the foreign exchange market today.

The U.S. price level is 115​, the Japanese price level is 96.4​, and the real exchange rate is 98.8 Japanese real GDP per unit of U.S. real GDP. What is the nominal exchange​ rate?

The nominal exchange rate is 82.82 yen per dollar. (use the equation: RER=(E×P)÷P* you can rearrange it to be: E = RER(P*/P) were E=nominal exchange rate, P is US price level, and P* is Japan's price level) The nominal exchange rate = 98.8×​(96.4​/115​), which is 82.82 yen per dollar.)

The price level in the Eurozone is 111.2​, the price level in the United States is 116.2​, and the nominal exchange rate is 0.8 euros per U.S. dollar. What is the real exchange rate expressed as Eurozone real GDP per unit of U.S. real​ GDP?

The real exchange rate expressed as Eurozone real GDP per unit of U.S. real GDP was .84 (The real exchange rate equals ​(E×P​) ​/P​* where E is the nominal exchange​ rate, P is the U.S. price​ level, and P​* is the Eurozone price level. The real exchange rate equals ​(0.8×116.2​) ​/ 111.2​, which is 0.84 Eurozone real GDP per unit of U.S. real GDP.)

​Peso's Party It was bad enough when​ Canada's Loonie surpassed the​ dollar, but now the Mexican peso is gaining on the​ greenback, too. In​ April, the peso hit 10.44 to the​ dollar, its best rate in two years.​ Mexico's 4.2 percent GDP growth in January and February ... finally convinced currency investors that the peso​ shouldn't be tethered to the​ dollar, as it has been in recent years. At current​ levels, exports might soon become more expensive for gringos. In other​ words, time to stock up on Coronas. Fortune​, May​ 12, 2008 Choose the correct statement.

The​ "Mexican peso is gaining on the​ greenback" because currency investors expect the future Mexican exchange rate to rise.

The effect of​ China's choice of exchange rate regime is​ _______.

an increase in U.S. dollar reserves when​ China's target rate is above the equilibrium exchange rate and a decrease in U.S. dollar reserves when​ China's target rate is below the equilibrium exchange rate (When​ China's target exchange rate is greater than the equilibrium exchange​ rate, China buys U.S. dollars to raise the exchange rate.​ China's U.S. dollar reserves increase. When​ China's target exchange rate is less than the equilibrium exchange​ rate, China sells U.S. dollars to lower the exchange rate.​ China's U.S. dollar reserves decrease.)

The U.S. dollar exchange rate increased from $0.89 Canadian in June 2009 to $0.96 Canadian in June 2010​, and it decreased from 83.8 euro cents in January 2009 to 76.9 euro cents in January 2010.

appreciated; depreciated

The ___________ account records receipts from exports of goods and services sold​ abroad, payments for imports of goods and services from​ abroad, net interest income paid​ abroad, and net transfers abroad​ (such as foreign aid​ payments).

current

If the government sector deficit​ increases, with no change in the private sector​ surplus, net exports​ ______.

decrease

A decrease in U.S. demand for imports​ ______ the supply of U.S. dollars. A rise in the U.S. interest rate differential​ ______ the supply of U.S. dollars.

decreases, decreases

A decrease in world demand for U.S. exports​ ______ the demand for U.S. dollars. A fall in the U.S. interest rate differential​ ______ the demand for U.S. dollars.

decreases, decreases A decrease in world demand for U.S. exports decreases the demand for U.S. dollars. Think about​ Boeing's airplane sales. A decrease in demand for air travel in China decreases ​China's demand for airplanes.​ Boeing's orders decrease and the demand for U.S. dollars decreases. The lower the interest rate that people can make on U.S. assets compared with foreign​ assets, the fewer U.S. assets they buy. So the smaller the U.S. interest rate differential—the U.S. interest rate minus the foreign interest rate—the smaller the demand for U.S. dollars.

A rise in the expected future exchange rate​ ______ the supply of U.S. dollars. A decrease in the world demand for U.S. exports​ ______ the supply of U.S. dollars.

decreases, does not change For a given current exchange​ rate, other things remaining the​ same, a rise in the expected future exchange rate increases the profit that can be earned by holding U.S. dollars and increases the quantity of U.S. dollars that people want to hold. To increase their holdings of U.S. dollar​ assets, people must buy U.S. dollars. When they do​ so, the supply of U.S. dollars in the foreign exchange market decreases. A decrease in the world demand for U.S. exports decreases the demand for U.S. dollars. The supply of U.S. dollars does not change.

A decrease in U.S. demand for imports​ ______ the supply of U.S. dollars. A rise in the U.S. interest rate differential​ ______ the supply of U.S. dollars.

decreases​; decreases

A decrease in U.S. demand for imports​ ______ the supply of U.S. dollars. A fall in the U.S. interest rate differential​ ______ the supply of U.S. dollars.

decreases​; increases A decrease in U.S. demand for imports decreases the supply of U.S. dollars in the foreign exchange market. Think about​ Wal-Mart's purchase of DVD players from Japan. When the demand for DVD players decreases​, ​Wal-Mart decreases its purchases of DVD players from Japan. The supply of U.S. dollars decreases as​ Wal-Mart goes to the foreign exchange market for Japanese yen to pay Panasonic. The smaller the U.S. interest rate​ differential, the larger is the supply of U.S. dollars in the foreign exchange market. The supply of U.S. dollars is larger because the demand for foreign assets is larger. If people spend more on foreign​ assets, the quantity of U.S. dollars they supply in the foreign exchange market increases. OK

In the long​ run, the real exchange rate is determined by​ ______ and the nominal exchange rate is determined by​ ______.

demand and supply in the markets for goods and​ services; the quantities of money in two countries (In the long​ run, the real exchange rate is determined by demand and supply in the markets for goods and services. The real exchange rate is given by the formula RER​ = ​(E×P​)/P​* where P​* is the price level in the foreign country and P is the price level in the United States. If Japan and the United States produce identical​ goods, purchasing power parity would make the real exchange rate equal 1. But U.S. real GDP is a different bundle of goods and services from Japanese real​ GDP, so the real price of Japanese and U.S. real GDP—the real exchange rate—is not 1 and it fluctuates. The forces of demand and supply in the markets for the millions of goods and services that make up real GDP determine the relative prices. So in the long​ run, demand and supply in the markets for goods and services determine the real exchange rate. The equation for the nominal exchange rate is E​ = ​(RER×P​*)/P. In the long​ run, the quantity of money determines the price level. So the nominal exchange rate in the long run is a monetary​ phenomenon, determined by the quantities of money in two countries. Next Question)

Dollar Hits​ All-Time Low vs Yen The dollar fell as low as 76.54 against the yen in late trading​ Wednesday, as global uncertainty and the prospect of more cash flowing into Japan pushed its currency higher. The previous​ all-time low for the dollar in terms of the yen was 79.75 set in April 1995. The strong yen is making Japanese exports more expensive. ​Source: CNN​ Money, March​ 16, 2012 The graph shows the demand for and supply of U.S. dollars in the foreign exchange market. Suppose Japanese exports are becoming more expensive. Show the imports effect on the U.S. dollar in the graph. Draw either an arrow along the curve showing the direction of​ change, or a new curve. Label it 1. Now investors step up the sale of dollars. Show the effect in the graph. Draw either an arrow along the curve showing the direction of​ change, or a new curve. Label it 2.

https://photos.app.goo.gl/1z6pQYt396Bp1ahx8 *draw it EXACTLY like the picture or it will be counted wrong *be sure to shift the supply curve to the right AND down!

​Peso's Party It was bad enough when​ Canada's Loonie surpassed the​ dollar, but now the Mexican peso is gaining on the​ greenback, too. In​ April, the peso hit 10.44 to the​ dollar, its best rate in two years.​ Mexico's 4.2 percent GDP growth in January and February finally convinced currency investors that the peso​ shouldn't be tethered to the​ dollar, as it has been in recent years. At current​ levels, exports might soon become more expensive for gringos. In other​ words, time to stock up on Coronas. Fortune​, May​ 12, 2008 The graph shows the foreign exchange market for Mexican pesos. Draw a point at the equilibrium exchange rate and equilibrium quantity of pesos. Label it 1. The Mexican peso is appreciating. Draw the new demand curve. Label it D1. Draw the new supply curve. Label it. S1. Draw a point at the new equilibrium exchange rate and equilibrium quantity of pesos. Label it 2.

https://photos.app.goo.gl/LxLQq9ZqTJjXiF4B8 When the demand for pesos increases and the supply of pesos​ decreases, the exchange rate increases and the Mexican peso is appreciating. Mexican goods might become more expensive to U.S. consumers because​ ______. an appreciation of the Mexican peso against the U.S. dollar means that the U.S. dollar depreciates against the Mexican peso

Colombia is the​ world's biggest producer of roses. The global demand for roses increases and at the same​ time, the central bank in Colombia increases the interest rate. Draw a demand curve that shows what happens to the demand for pesos. Label it D1. Draw a supply curve that shows what happens to the supply of pesos. Label it S1. Draw a point at the new equilibrium.

https://photos.app.goo.gl/j525G9o1fjvpxWVJ6 An increase in the Colombian interest rate increases the Colombian interest rate differential and increases the demand for pesos. At the same​ time, the increase in the demand for roses increases the demand for​ Colombia's exports and increases the demand for pesos. The demand curve shifts rightward. An increase in the Colombian interest rate increases the Colombian interest rate differential and decreases the supply of pesos. The supply curve shifts leftward. But the change in supply is less than the change in demand. So the equilibrium exchange rate rises and the equilibrium quantity of pesos increases. Along the new demand​ curve, the quantity of pesos demanded​ _______. Along the new supply​ curve, the quantity of pesos supplied​ _______. decreases; increases

A fall in the expected future exchange rate​ ______ the supply of U.S. dollars. A decrease in the world demand for U.S. exports​ ______ the supply of U.S. dollars.

increases​; does not change

A fall in the expected future exchange rate​ ______ the supply of U.S. dollars. An increase in the world demand for U.S. exports​ ______ the supply of U.S. dollars.

increases​; does not change

A rise in the expected future exchange rate​ ______ the demand for U.S. dollars. An increase in the U.S. demand for imports​ _______ the demand for U.S. dollars.

increases​; does not change For a given current exchange​ rate, other things remaining the​ same, a rise in the expected future exchange rate increases the profit that people expect to earn by holding U.S. dollars and increases the demand for U.S. dollars today. An increase in the U.S. demand for imports increases the supply of U.S. dollars in the foreign exchange market. The demand for U.S. dollars does not change.

A fixed exchange rate is one that​ _______. A fixed exchange rate is achieved​ _______.

is set by the government or the central​ bank; by central bank intervention in the foreign exchange market

The imports effect is the result that the higher the exchange​ rate, other things remaining the​ same, the​ ______.

lower are the prices of​ foreign-produced goods and services to Americans and the greater is the volume of U.S. imports

Purchasing power parity is equal value of​ _____ - a situation in which​ _____ buys the same amount of goods and services in different currencies.

money; money

If a shortage of U.S. dollars occurs in the foreign exchange​ market, the​ _______ and the exchange rate​ _______.

quantity of U.S. dollars demanded decreases and the quantity of U.S. dollars supplied​ increases; rises If a shortage of U.S. dollars occurs in the foreign exchange​ market, then the exchange rate is below the equilibrium exchange rate. The exchange rate rises to its​ equilibrium, the quantity of U.S. dollars demanded decreases and the quantity of U.S. dollars supplied increases.

A country has a lower inflation rate than all other​ countries, and it has more rapid economic growth. The central bank does not intervene in the foreign exchange market. Complete the sentences. To preserve purchasing power​ parity, the exchange rate​ ______. If investment from foreigners increases due to the rapid economic​ growth, the current account balance is becoming more​ ______. It is expected that in the future the exchange rate will​ ______. The interest rate differential is​ ______.

rises; negative rise; negative

U.S. interest rate differential

the U.S. interest rate minus the foreign interest rate, which is called the U.S. interest rate differential If the U.S. interest rate rises and the foreign interest rate remains constant, the U.S. interest rate differential increases. The larger the U.S. interest rate differential, the greater is the demand for U.S. assets and the greater is the demand for U.S. dollars in the foreign exchange market.

The main influences on the demand for U.S. dollars in the foreign exchange market include​ ______.

the exchange​ rate, world demand for U.S.​ exports, interest rates in the United States and other​ countries, and the expected future exchange rate

Arbitrage in the foreign exchange market achieves​ _______.

the law of one​ price, no​ round-trip profit, interest rate​ parity, and purchasing power parity (Arbitrage achieves the law of one price. The law of one price states that if an item is traded in more than one​ place, the price will be the same in all locations. With​ arbitrage, there is no​ round-trip profit. A round trip is using currency A to buy currency B​, and then using B to buy A. Arbitrage removes profit from all transactions of this type. Arbitrage achieves interest rate parity and purchasing power parity. Interest rate​ parity, which means equal rates of return across​ currencies, means that for​ risk-free transactions, there is no gain from choosing one currency over another. Purchasing power parity means equal value of money. If PPP does not​ prevail, arbitrage forces go to work until it is restored.)

Arbitrage is​ _______.

the practice of seeking to profit by buying in one market and selling for a higher price in another related market

The equilibrium exchange rate is the exchange rate at which​ _______.

the quantity of dollars demanded equals the quantity of dollars supplied

With the strengthening of the yen against the U.S.​ dollar, Japan's central bank did not take any action. A Japanese politician called on the central bank to take actions to weaken the​ yen, saying it will help exporters in the short run and have no​ long-run effects. What is​ Japan's current exchange rate​ policy? What does the politician want the exchange rate policy to be in the short​ run? Why would such a policy have no effects on the exchange rate in the long​ run?

​Japan's current exchange rate policy is​ ______. a flexible exchange rate (When the yen strengthened against the U.S.​ dollar, Japan's central bank did not take any action. Japan has a flexible exchange rate.) The politician wants a​ ______ in the short run. This policy would have no effect on the exchange rate in the long run because in the long run​ ______. crawling​ peg; the price level and the nominal exchange rate are determined together (A crawling peg is an exchange rate that follows a path determined by a decision of the government or the central bank and is achieved by central bank intervention in the foreign exchange market. The politician is asking for a crawling peg that will lower the foreign exchange rate of the yen over a period of time. In the long​ run, this policy would have no effect on the exchange rate because in the long​ run, the real exchange rate is determined by the price level in each​ country, and the price level and the nominal exchange rate are determined together.)

Suppose that purchasing power parity does not hold. If all​ (or most) prices have increased in the United States and not increased in​ Japan, then people will generally expect that the foreign exchange value of the dollar will​ ______. The demand for dollars​ ______.

​fall; decreases and the supply of dollars increases

​Double-Talking the Dollar The dollar has lost​ 41% of its value against the​ euro, its main global​ competitor, since 2001. The huge trade deficits that the country has been running for the past decade seem like a pretty good indication that the dollar was overvalued in global currency markets and needed to come down. Time​, May​ 5, 2008 The news clip states that huge trade deficits​ "seem like a pretty good indication that the dollar was overvalued in global currency markets and needed to come​ down". Is this statement​ accurate? Explain.

​inaccurate; the current account balance is determined by the private sector balance and the government sector balance

In November​ 2015, the exchange rate was 1.33 Canadian dollars per U.S. dollar. By November​ 2016, the exchange rate had risen to 1.35 Canadian dollars per U.S. dollar. Explain the imports effect of this change in the exchange rate. The imports effect of the rise in the exchange rate is that the value of U.S. imports​ _______, and in the foreign exchange​ market, _______.

​increases; the quantity of U.S. dollars supplied increases