6.1 - BEC 6 Global Economics

100. Which of the following is not a foreign exchange control a. Banning possession of foreign currency by citizens. b. Fixed exchange rates. c. Restricting currency exchange to government approved exchangers. d. Requiring a floating exchange rate.

100. (d) The requirement is to identify the item that does not describe a foreign exchange control. Answer (d) is correct because requiring a market-driven (floating) exchange rate involves no controls on the market. All others describe ways of controlling foreign exchange.

**92. If the central bank of a country raises interest rates sharply, the country's currency will most likely a. Increase in relative value. b. Remain unchanged in value. c. Decrease in relative value. d. Decrease sharply in value at first and then return to its initial value.

92. (a) The requirement is to describe the effect of an increase in the interest rate on a currency's value. The correct answer is (a) because if the interest rate is increased investors will be able to get a larger return on investment in the country. Therefore, demand for the currency will increase for investment purposes, and the relative value of the currency will increase.

101. Which of the following accurately describes a dumping a. Selling goods domestically at a price less than cost. b. Selling goods in another country at a price less than cost. c. Selling goods in another country at an excessive price. d. Selling goods domestically at an excessive price.

101. (b) The requirement is to identify the item that describes a dumping pricing policy. Answer (b) is correct because a dumping pricing policy involves sales of goods by a company of one country in another country at a price that is lower than its cost or significantly lower than the price charged in the company's country.

102. What is an appropriate response by an importing country for the payment of export subsidies by an a. Countervailing duties. b. Foreign exchange controls. c. Trade embargo. d. A dumping pricing policy.

102. (a) The requirement is to identify the item that describes an appropriate response by importing country to export subsidies. Answer (a) is correct because countervailing subsidies is an appropriate response, as they serve to offset the export subsidies.

103. Which of the following describes a pegged exchange a. A currency rate that is tied to the US dollar. b. A currency rate with its value determined by market factors. c. A currency market in which the country's central bank keeps the rate from deviating too far from a target band or value. d. A currency rate that is tied to the prime rate.

103. (c) The requirement is to identify the item that describes a pegged exchange rate. Answer (c) is correct because a pegged exchange rate is one that is kept from deviating far from a range or value by the central bank.

104. Assume that the three-month forward rate for the euro is $1.367 and the spot rate is $1.364. What is the forward a. 0.88% premium. b. 0.88% discount. c. 0.23% premium. d. 0.23% discount.

104. (a) The requirement is to calculate the forward premium or discount on the euro. Answer (a) is correct because the premium or discount is calculated as follows: Premium or Discount = Forward rate - Spot rate × Months (or days) in year Spot rate Months (or days) in forward period = $1.367 - $1.364 × 12 $1.364 3 = 0.88% premium

**105. When net exports are negative, there is a net flow of a. Goods from firms in foreign countries to the domestic country. b. Money from foreign countries to the firms of the domestic country. c. Goods from the firms of the domestic country to foreign countries. d. Goods and services which result in a trade surplus.

105. (a) The requirement is to identify the effect of negative net exports. Answer (a) is correct because when a country has negative net exports, it imports more than it exports. Therefore, it results in a net flow of goods from firms in foreign countries to the domestic country.

106. Which of the following factors is least likely to affect a a. Interest rates in the country. b. Political stability in the country. c. Inflation in the country. d. The tax rate in the country.

106. (d) The requirement is to identify the factor that is least likely to affect a country's currency foreign exchange rate. Answer (d) is correct because the country's tax rate is least likely to affect the country's currency exchange rate. Answers (a), (b), and (c) are incorrect because they are all factors that affect the value of the country's currency.

107. Assume that the exchange rate of US dollars to euros is $1.80 to 1 euro. How much would a US company gain or lose if the company has a 10,000 euro receivable and the exchange a. $10,000 loss. b. $10,000 gain. c. $500 loss. d. $500 gain.

107. (c) The requirement is to compute the foreign exchange loss or gain. The correct answer is (c) because before the decline in value, the receivable had a value of $18,000 (10,000 × $1.80), and after the decline in value, the receivable had a value of $17,500 (10,000 × $1.75). Therefore, the loss is equal to $500. Answers (a), (b), and (d) are incorrect because they inaccurately calculate the loss.

108. Simon Corp., a US company, has made a large sale to a French company on a 120-day account payable in euros. If management of Simon wants to hedge the transaction risk related to a decline in the value of the euro, which of the a. Lend euros to another company for payment in 120 days. b. Enter into a forward exchange contract to purchase euros for delivery in 120 days. c. Enter into a futures contract to sell euros for delivery in the future. d. Purchase euros on the spot market.

108. (c) The requirement is to identify the appropriate hedging strategy. The correct answer is (c) because by selling euros in the futures market, the firm has locked in the exchange rate today. Answer (a) is incorrect because lending euros puts the company at greater risk for changes in value of the euro. It would need to borrow euros to lock in the exchange rate. Answer (b) is incorrect because it involves the purchase of euros; the appropriate strategy would involve the sale of euros. Answer (d) is incorrect because the purchase of euros on the spot market would put the firm more at risk to losses from decline in the value of the euro.

109. Which of the following is not a means by which a firm a. Insurance. b. Buy futures contracts for future delivery of the country's currency. c. Finance the operations with local-country capital. d. Enter into joint ventures with local-country firms.

109. (b) The requirement is to identify hedging strategies that are not appropriate for political risk. Political risk is the risk related to actions by a foreign government, such as enacting legislation that prevents the repatriation of a foreign subsidiary's profits or seizing a firm's assets. Answer (b) is correct because purchasing or selling futures contracts is designed to hedge transaction risks relating to foreign exchange rates. Answer (a) is incorrect because a firm can purchase insurance to mitigate political risk. Answer (c) is incorrect because if the firm finances the investment with local-country capital, it may not be forced to repay the loans if assets are seized by the government. Answer (d) is incorrect because by entering into joint ventures with local-country firms, the firm can reduce the risk of seizure of the investment by the government.

**91. All of the following are true about international trade except that a. The gains from international trade depend on specialization with comparative advantage. b. Absolute advantage without comparative advantage does not result in gains from international trade. c. Absolute advantage is defined as the ability of one nation to produce a product at a relatively lower opportunity cost than another nation. d. Where there is reciprocal absolute advantage between two countries, specialization will make it possible to produce more of each product.

91. (c) The requirement is to identify the statement that is not true regarding international trade. Answer (c) is correct because absolute advantage is the ability to produce a product for less than other nations. Comparative advantage is the ability of one nation to produce at a relatively lower opportunity cost than another nation. Answers (a), (b), and (d) are all incorrect because they are true.

**93. Which one of the following groups would be the primary a. Domestic producers of export goods. b. Domestic producers of goods protected by the tariff. c. Domestic consumers of goods protected by the tariff. d. Foreign producers of goods protected by the tariff.

93. (b) The requirement is to identify the group that would most benefit from a tariff. The correct answer is (b) because a tariff restricts the amount of imports of a specific good, and the group most benefiting would be the domestic producers of that good. Answers (a), (c), and (d) are incorrect because these groups would not benefit from the tariff.

94. In the law of comparative advantage, the country which should produce a specific product is determined by a. Opportunity costs. b. Profit margins. c. Economic order quantities. d. Tariffs.

94. (a) The requirement is to identify the description of comparative advantage. Answer (a) is correct because the respective opportunity costs determine which country will produce which product. Answer (b) is incorrect because profit margins do not enter into the decision. Answer (c) is incorrect because economic order quantity determines optimum inventory levels. Answer (d) is incorrect because tariffs would only come into play after each country produced its respective products.

**95. Assuming exchange rates are allowed to fluctuate freely, which one of the following factors would likely cause a nation's currency to appreciate on the foreign exchange a. A relatively rapid rate of growth in income that stimulates imports. b. A high rate of inflation relative to other countries. c. A slower rate of growth in income than in other countries, which causes imports to lag behind exports. d. Domestic real interest rates that are lower than real interest rates abroad.

95. (c) The requirement is to identify the scenario that would result in appreciation in the value of a country's currency. The correct answer is (c) because the lag in imports in relation to exports means that there will be more demand for the currency from other countries to pay for the country's exported goods. Answer (a) is incorrect because if the country is importing goods this will increase demand for other currencies and cause the country's currency to decline in relative value. Answer (b) is incorrect because a higher rate of inflation depresses a country's currency. Answer (d) is incorrect because lower interest rates means there will be less demand for the currency for investment.

**96. If the US dollar declines in value relative to the currencies of many of its trading partners, the likely result is that a. Foreign currencies will depreciate against the dollar. b. The US balance of payments deficit will become worse. c. US exports will tend to increase. d. US imports will tend to increase.

96. (c) The requirement is to identify the effect of a decline in the US dollar. The correct answer is (c) because US goods will be cheaper in foreign countries and, therefore, US exports will increase. Answer (a) is incorrect because foreign currencies will appreciate if the dollar depreciates. Answer (b) is incorrect because the US balance of payments should improve due to the increase in exports. Answer (d) is incorrect because US imports will decline because of the increase in cost of foreign goods in dollars.

**97. Exchange rates are determined by a. Each industrial country's government. b. The International Monetary Fund. c. Supply and demand in the foreign currency market. d. Exporters and importers of manufactured goods.

97. (c) The requirement is to describe how exchange rates are determined. The correct answer is (c) because exchange rates are determined in the same way price is determined for other goods, based on demand and supply. Answers (a), (b), and (d) are incorrect because while they can have a temporary influence on exchange rates, supply and demand is the major determining factor.

**98. If the value of the US dollar in foreign currency markets changes from $1 = 6 marks to $1 = 4 marks a. The German mark has depreciated against the dollar. b. German imported products in the US will become more expensive. c. US tourists in Germany will find their dollars will buy more German products. d. US exports to Germany should decrease.

98. (b) The requirement is to determine the effect of changes in exchange rates. Answer (b) is correct because the dollar's value has declined against the mark and therefore German goods become more expensive. Answer (a) is incorrect because the German mark has appreciated against the dollar. Answer (c) is incorrect because the dollar will buy less in Germany. Answer (d) is incorrect because US exports to Germany should increase because they are less expensive in German marks.

*99. Which of the following measures creates the most a. Tariffs. b. Quotas. c. Embargoes. d. Exchange controls.

99. (c) The requirement is to identify the most restrictive barrier to an exporting country. The correct answer is (c) because an embargo is a total ban on certain types of imports. Answer (a) is incorrect because a tariff is merely a tax on imports. Answer (b) is incorrect because quotas are merely restrictions on the amounts of imports. Answer (d) is incorrect because exchange controls are limits of the amount of foreign exchange that can be transacted or exchange rates.