Chapter 13 Problems
A Swedish mutual fund buys stock issued by a Norwegian company. This purchase is an example of
Swedish foreign portfolio investment. It decreases Norway's net capital outflow. The purchase of stock is portfolio investment, and since a Swedish company is acquiring stock in a company outside Sweden, it is Swedish foreign portfolio investment. Since capital is flowing into Norway, the purchase decreases Norway's net capital outflow.
If purchasing-power parity did not hold, which of the following could NOT be true?
The real exchange rate equals 1. When the real exchange rate equals 1, by definition, purchasing-power parity holds, so if purchasing-power parity did not hold, the real exchange rate could NOT equal 1.
During some year a country had $120 billion in domestic assets purchased by foreigners, had exports of $200 billion, and had imports of $70 billion. What was the value of foreign assets purchased by the country?
With exports of $200 billion and imports of $70 billion, the country had net exports of $130 billion, so it had net capital outflow of $130 billion. Since net capital outflow is the difference between the value of foreign assets purchased by the country and the value of domestic assets purchased by foreigners, the value of foreign assets purchased by the country equals the value of domestic assets purchased by foreigners ($120 billion) plus net capital outflow ($130 billion), which is $250 billion.
Net capital outflow occurs when
purchases of foreign assets by domestic residents is greater than the purchase of domestic assets by foreign residents Net capital outflow is defined as the purchase of foreign assets by domestic residents minus the purchase of domestic assets by foreign residents.
In an open economy, consumption expenditure equals $420 billion, government expenditure equals $80 billion, investment equals $160 billion, and net exports equals $40 billion. What is national savings?
In an open economy, national savings equals investment plus net capital outflow. Investment in this economy is $160 billion and, because net exports are $40 billion, net capital outflow is $40 billion. Accordingly, national savings is $200 billion. Alternatively, since national savings is gross domestic product minus consumption expenditure and government expenditure, national savings could have been calculated by calculating GDP ($700 billion) and subtracting consumption expenditure ($420 billion) and government expenditure ($80 billion).
Sadie buys stock in a company in Italy. Mike opens an espresso bar in Italy. Both Sadie and Mike are American residents. Whose purchase, by itself, increases Italy's net capital outflow?
Neither Mike's nor Sadie's Both Mike and Sadie's purchases are purchase of Italian assets by people outside Italy, so they both decrease Italy's net capital outflow. In other words, neither purchase increases Italy's net capital outflow.
Which of the following is always correct in an open economy?
S = I + NCO While Y = C + I + G and S = I are always correct for a closed economy, in an open economy, Y = C + I + G + NX. By rearranging this equation into Y - C - G = I + NX and then substituting S = Y - C - G and NX = NCO, this equation can be expressed as S = I + NCO.
The price of a basket of goods and services in the U.S. is $500. In Argentina, the same basket of goods and services costs 3500 Argentine pesos. If the nominal exchange rate were 8 Argentinian pesos per U.S. dollar, what would the real exchange rate be?
The real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, which, in this case, is 8 x 500/3500 = 4000/3500.
Other things the same, if the U.S. real exchange rate depreciates, U.S. net capital outflow
and U.S. net exports both increase. When the U.S. real exchange rate depreciates, U.S. goods become cheaper for foreigners, so U.S. exports increase. At the same time, foreign goods become more expensive for U.S. residents, so U.S. imports decrease. As a result, net exports increase, and when net exports increase, net capital outflow also increases
If the nominal exchange rate e is foreign currency per dollar, the domestic price is P, and the foreign price is P*, then the real exchange rate is defined as
e(P/P*). If the nominal exchange rate e is foreign currency per dollar, the domestic price is P, and the foreign price is P*, then the real exchange rate is defined as e(P/P*).
Other things the same, a decrease in the foreign price level
increases the real exchange rate. This increase could be offset by a decrease in the nominal exchange rate. Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, a decrease in the foreign price level is a decrease in the denominator, which increases the real exchange rate. This increase could be offset by a decrease in the numerator, such as a decrease in either the nominal exchange rate or domestic price.
If Canadian purchases of foreign assets are less than purchases of Canadian assets by foreigners, then Canada has a
negative net capital outflow and negative net exports. When Canadians purchase foreign assets, capital flows out of Canada, and when foreigners purchase Canadian assets, capital flows in. In this scenario, less capital is flowing out than in, so Canada has negative net capital outflow. Because net capital outflow always equals net exports, when a country has negative net capital outflow, it has negative net exports.
If the exchange rate is 0.75 Swiss francs = $1, a chocolate bar that costs 2 Swiss francs costs
If the exchange rate is 0.75 Swiss francs per U.S. dollar, something that costs 2 Swiss francs will cost 2 Swiss francs x $1/(0.75 Swiss francs) = $2.67.
As a percentage of GDP, U.S. exports have tripled and U.S. imports have tripled since 1950.
True
Last year a country saved $120 billion during the year, had exports of $90 billion and imports of $60 billion. What was its domestic investment during the year?
With exports of $90 billion and imports of $60 billion, the country's net exports were $30 billion, so it had net capital outflow of $30 billion. Since saving must equal investment plus net capital outflow, investment must equal saving minus net capital outflow. Since saving is $120 billion and net capital outflow is $30 billion, investment is $90 billion.
If saving is less than domestic investment, then
Y < C + I + G and there is a trade deficit If saving is less than domestic investment, there must be net capital inflow to make up the difference. When net capital inflow is positive, net capital outflow is negative, net exports are negative, so there is a trade deficit. Because Y = C + I + G + NX, if NX is negative, Y < C + I + G.
Juergen, a German resident, purchases some grapes grown in France. This purchase is an example of
a German import and a French export A German citizen purchasing grapes grown in France counts as an import for Germany and an export for France.
A country buys more from foreign countries than it sells to them. It has
a trade deficit and negative net exports. When a country buys more from foreign countries than it sells to them, it is importing more than it is exporting, so it has negative net exports. When a country has negative net exports, it has a trade deficit.
According to purchasing-power parity, if it took 5 Swedish kroner to buy a dollar today, but it took 4.75 kroner to buy it a year ago, then the dollar has
appreciated, indicating inflation was lower in the U.S. than in Sweden. The nominal exchange rate has risen from 4.75 kroner per dollar to 5 kroner per dollar, so the dollar has appreciated. If purchasing-power parity holds, the nominal exchange rate between Sweden and the U.S. is the Swedish price level divided by the U.S. price level, so for the nominal exchange rate to increase, the price level in Sweden has to rise more than the price level in the U.S. In turn, for the price level in Sweden to rise more than the price level in the U.S., inflation must have been lower in the U.S. than in Sweden.
If the dollar buys more rice in Thailand than in the United States, then traders could make a profit by
buying rice in Thailand and selling it in the United States, which would tend to raise the price of rice in Thailand. If a dollar buys more rice in Thailand than in the United States, then traders could make a profit by taking a dollar, buy rice in Thailand, then take it to the United States, where it would be worth more than a dollar. If traders did this, it would increase demand for rice in Thailand, which would tend to raise the price of rice in Thailand.
Other things the same, if the exchange rate changes from 6 Danish krone per dollar to 5 Danish krone per dollar, the dollar has
depreciated and so buys fewer Danish goods. The number of Danish krone required to buy a U.S. dollar decreases from 6 to 5. When the amount of foreign currency required to buy a U.S. dollar decreases, the dollar is said to have depreciated. In other words, when a U.S. dollar buys less foreign currency, like a Danish krone, the dollar is said to have depreciated. When the dollar depreciates against the Danish krone, a U.S. dollar buys less Danish goods.
Arbitrage may not eliminate a price difference for a haircut in Paris versus a haircut in New York because ____
international travel would be too costly. Some goods and services are not easily tradable. The requirement of international travel for a service can eliminate arbitrage opportunities.
One reason purchasing-power parity is not completely accurate is that ____
many goods are not easily tradable. Some goods and services are not easily tradable. The requirement of international travel for a service can eliminate arbitrage opportunities.
If the value of the goods and services that the U.S. purchases from Canada are greater than the value of goods and services that Canada purchases from the U.S., the U.S. has
negative net exports with Canada and a trade deficit with Canada. The goods and services that the U.S. purchases from Canada are imports, and the goods and services that Canada purchases from the U.S. are exports. As a result, in this scenario, the U.S. imports more from Canada than it exports, so it has negative net exports with Canada. Having negative net exports is also called a trade deficit.
Other things the same, according to purchasing-power parity, if over the next few years Nigeria has a lower money supply growth rate than South Africa, then
prices in Nigeria will rise by a smaller percentage than in South Africa. So, the Nigerian naira will appreciate against the South African rand. If Nigeria has a lower money supply growth rate than South Africa, prices in Nigeria will rise by a smaller percentage than in South Africa. If purchasing-power parity holds between South Africa and Nigeria, the nominal exchange rate between Nigerian naira and South African rand will equal the Nigerian price level divided by the South African price level. As a result, if the price level rises in Nigeria by a smaller percentage than in South Africa, the nominal exchange rate will decrease, meaning that the Nigerian naira will appreciate against the South African rand.
If the price of a good in the U.S. is $20 and the unit of foreign currency is the rupee, in which case is the real exchange rate 5/6?
the exchange rate is 50 rupees per dollar and the foreign price is 1200 rupees Since the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, for the real exchange rate to equal 5/6 when the domestic price is $20, the ratio of the nominal exchange rate to the foreign price must be (5/6)/20 = 5/120. An exchange rate of 50 rupees per dollar and a foreign price of 1200 rupees satisfies this ratio.
Other things the same, the real exchange rate between U.S. and Swiss goods would be lower if
prices in the U.S. were lower, or the number of Swiss francs the dollar purchased were lower. Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, the real exchange rate would be lower if the either prices in the U.S. were lower or the nominal exchange rate (the number of Swiss francs the dollar purchased) were lower.
When consumers prefer goods produced in one country over another, ____
purchasing-power parity may not hold. Some consumers prefer goods produced in one country over another, thus the goods are not perfect substitutes. Thus, consumers would be willing to pay more for one good over another and purchasing-power parity will not hold.
To calculate the value of a country's net exports,
subtract the value of goods and services imported from the value of goods and services exported. The value of a country's net exports is calculated as the value of goods and services exported minus the value of goods and services imported.
Suppose that the real rate of return from operating clothing stores in Brazil falls relative to the real rate of return in the United States. Other things the same,
this will decrease U.S. net capital outflow and increase Brazilian net capital outflow. When the real rate of return in Brazil falls relative to the real rate of return in the United States, Brazil becomes less attractive as a place to acquire and hold assets and the United States becomes more attractive. As a result, capital flows out of Brazil, so Brazilian net capital outflow increases, and capital flows into the United States, so U.S. net capital outflow decreases.
Suppose that a basket of goods cost $100 in the U.S., and that taking $100 and converting it into Thai bhat would allow you to buy 3/4 of the same basket of goods in Thailand. The real exchange rate would be computed as how many Thai goods per U.S. goods?
3/4 The real exchange rate measures the ratio of how goods in one country can be converted to goods in another country. In this case, a basket of goods in the U.S. converts into ¾ of a basket of goods in Thailand, so the real exchange rate is ¾.
If the exchange rate is 0.60 British pounds per U.S. dollar, the price of a t-shirt in London is 12 British pounds and the price of the same t-shirt in the U.S. is $15, then what is the real exchange rate?
Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, in this case the real exchange rate is (0.60 x 15)/12 = 0.75.
In the U.S. a digital camera costs $250. The same camera in Paris sells for 200 euros. If the exchange rate were .70 euros per dollar, then which of the following would be correct?
The real exchange rate is less than 1. A person in Paris with $250 could exchange them for euros but then wouldn't have enough to buy the camera. The real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, so the real exchange rate in this case is (0.70 x 250)/200 = 0.875 French cameras per U.S. camera, which is less than 1. A person who took $250 and converted it to euros at 0.70 euros per dollar would end up with 175 euros, which is less than the 200 euros needed to buy a camera in Paris.
If U.S. residents purchase $200 billion worth of foreign assets and foreigners purchase $400 billion worth of U.S. assets,
U.S. net capital outflow is -$200 billion; capital is flowing into the U.S. Net capital outflow is defined as the purchase of foreign assets by domestic residents, which equals $200 million in this case, minus the purchase of domestic assets by foreign residents, which equals $400 million in this case. As a result, net capital outflow equals -$200 million in this case. When net capital outflow is negative, capital is flowing into the U.S.
If Ecuador purchases $20 billion in goods and $5 billion in services from abroad, while selling $10 billion in goods and $10 billion in services to foreign countries, Ecuador's net exports equal
When Ecuador purchases goods and services abroad, it imports, and when it sells goods and services abroad, it exports. As a result, Ecuador imports $25 billion and exports $20 billion, so its net exports are -$5 billion.
Other things the same, if the exchange rate changes from 0.60 Swiss francs per dollar to 0.70 Swiss francs per dollar, the dollar has
appreciated and therefore each dollar buys more Swiss goods. The number of Swiss francs required to buy a U.S. dollar increases from 0.60 to 0.70. When the amount of foreign currency required to buy a U.S. dollar increases, the dollar is said to have appreciated. In other words, when the U.S. dollar buys more of a foreign currency, like the Swiss franc, the dollar is said to have appreciated. When the dollar appreciates against the Swiss franc, a U.S. dollar buys more Swiss goods.
You are planning a trip to Europe. Other things the same, if the dollar depreciates relative to the euro, then dollar buys
fewer euros. Your train trips in Europe will require more dollars. When the dollar depreciates relative to the euro, it means that the dollar has lost value relative to the euro, so a dollar buys fewer euros. Because a dollar buys fewer euros, buying goods sold in euros, like train trips, will require more dollars.
A Mexican company sells oil drilling equipment to a Colombian company, which pays with Colombian currency. This transaction
increases Mexican net capital outflow because Mexico acquires foreign assets. When the Mexican company takes payment in Colombian currency, Mexico acquires foreign assets, which increases Mexican net capital outflow.
From 1970 to 1998 the Italian lira
lost value compared to the U.S. dollar because inflation was higher in Italy Between 1970 and 1998 inflation was higher in Italy than in the United States. While nominal exchange rates do not follow purchasing-power parity exactly, they do tend towards purchasing-power parity over long periods of time. In this case, the nominal exchange rate suggested by purchasing-power parity would be the price level in Italy divided by the price level in the United States. Since the price level rose more in Italy, the nominal exchange rate would rise, so that more Italian lira were required to buy U.S. dollars. In other words, the Italian lira lost value to the U.S. dollar.
A basket of goods costs $500 in the U.S., 2,000 Swedish kroner in Sweden, and 3,500 Argentinean pesos in Argentina. The exchange rates are 5 Swedish kroner per U.S. dollar and 8 Argentinean pesos per U.S. dollar. Which country has purchasing-power parity with the U.S?
neither Argentina nor Sweden Purchasing-power parity implies that the nominal exchange rate is the ratio of the price of a basket of goods in a foreign country to the price of that basket in the United States. The ratio of the price of the basket between Argentina and the United States is 3,500 Argentinian pesos/$500 = 7 Argentinian pesos per dollar, but the nominal exchange rate is 8 pesos per dollar, so purchasing-power parity does not hold between Argentina and the United States. It also does not hold between Sweden and the United States because the ratio of the price of the basket is 2,000 Swedish kroner/$500 = $4 kroner per dollar but the nominal exchange rate is 5 kroner per dollar.
An Australian firm buys pineapples from Indonesia with Indonesian rupiah it got in exchange for Australian dollars. Indonesian residents then use these dollars to purchase wool from Australia. Which of the following increases?
neither Indonesia's net exports nor Indonesia's net capital outflow Because Indonesia uses all the dollars acquired by the export of pineapples to import wool, the value of Indonesia's net exports does not change. Since Indonesia's net exports does not change, its net capital outflow does not change either.
From 2000 to 2012 the U.S. had a large
net capital inflow and a trade deficit From 2000 to 2012, U.S. imports far exceeded U.S. exports, so the U.S. had a large trade deficit and, as a result, a large net capital inflow.
One reason purchasing-power parity is not completely accurate is that ____
some goods are not perfect substitutes when produced in different countries. Some consumers prefer goods produced in one country over another, thus the goods are not perfect substitutes. Thus, consumers would be willing to pay more for one good over another.
If a Starbucks Grande latte costs 3 Swiss francs in Switzerland and $4 in the United States, then purchasing-power parity implies the nominal exchange rate is how many Swiss francs per U.S. dollar?
0.75 If the exchange rate is less than this, it costs more U.S. dollars to buy a grande latte in Switzerland than in the U.S. Purchasing-power parity implies that the nominal exchange rate equals the ratio of foreign prices to domestic prices. In this case, this ratio is 3 Swiss francs/$4 = 0.75 francs per dollar. At this nominal exchange rate, $4 can buy a latte in the United States or, when converted to Swiss francs, buy a latte in Switzerland. If the exchange rate were less than 0.75, converting $4 into Swiss francs would get you less than 3 Swiss francs, so it would cost more dollars to buy a grande latte in Switzerland.
Suppose the real exchange rate is 4/3 gallon of country A's milk per gallon of U.S. milk, a gallon of milk costs $4.00 in the U.S., and a gallon of milk in country A costs 10 units of their currency. What is the nominal exchange rate?
10/3 of a unit of country A's currency per U.S. dollar. The real exchange rate = (Nominal exchange rate X Domestic price)/Foreign price, rearranging to solve for Nominal exchange rate gives Nominal exchange rate = (Foreign price x real exchange rate)/Domestic price. Substituting the values give yields Nominal exchange rate = (10 x 4/3)/4 = 10/3 of a unit of country A's currency per dollar.
If the exchange rate is 2 Swedish kroner per U.S. dollar, a shirt that costs 12 US dollars costs
24 Swedish kroner If the exchange rate is 2 Swedish kroner per U.S. dollar, something that costs 12 US dollars will cost $12 x (2 Swedish kroner/$1) = 24 Swedish kroner
Which of the following would both increase the demand for Argentinian assets by people outside Argentina?
Argentinian interest rates rise, the default risk of Argentinian assets fall Everything else held constant, assets are more attractive when they offer higher interest rates and when they are less risky. As a result, if both Argentinian interest rates rise and the default risk of Argentinian assets fall, the demand for Argentinian assets would increase.
Purchasing-power parity theory does not hold at all times because the same goods produced in different countries are perfect substitutes for each other.
False It's true that purchasing-power parity theory does not hold at all times, but it is the fact that the same goods produced in different countries are imperfect substitutes for each other that contributes to this. Because of differences in preferences among residents of different countries, a good produced in one country may not be a substitute for the same good produced in another country. As a result, there is less pressure for prices to change in the direction that would bring about purchasing-power parity.
If the real exchange rate between India and Thailand is 1 and purchasing-power parity holds, then 1 Indian rupee buys 1 Thai bhat.
False. If the real exchange rate between the India and Thailand is 1, then purchasing-power parity holds, but purchasing-power parity doesn't mean that 1 unit of a country's currency buys 1 unit of another country's currency. Instead, purchasing-power parity means, in the case of India and Thailand, that the amount of rupees needed to buy goods in India is the same as the amount needed to buy enough Thai bhat to buy the same goods in Thailand.
A country has positive net exports in one year, and the next year it still has positive net exports but imports have risen more than exports. Which of the following has occurred?
Its trade surplus fell. Because the country still has positive net exports, it still has a trade surplus, but because imports rose more than exports, its net exports decreased, so its trade surplus fell.
If Mexican exports are $50 billion and Mexican imports are $10 billion, which of the following is correct?
Mexico has a trade surplus of $40 billion. Since Mexican exports are greater than Mexican imports, it has a trade surplus. The value of this trade surplus is the difference between the value of exports and the value of imports: $40 billion.
The nominal exchange rate is 5 Swedish kroner per U.S. dollar and the real exchange rate is $0.75. Which of the following price for a particular good are consistent with those exchange rates?
$3 in the U.S. and 20 kroner in Sweden Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, to be consistent with a real exchange rate of ¾ and a nominal exchange rate of 5, the ratio of the domestic price to foreign price has to be the real exchange rate/nominal exchange rate = (3/4)/5 = 3/20. As a result, a price of $3 in the U.S. and 20 kroner in Sweden would be consistent.
If a U.S. dollar purchases 30 Thai bhat, and a bouquet of flowers costs $12 in the U.S. and 480 bhat in Thailand, what is the real exchange rate?
0.75 Thai bouquets per U.S. bouquet Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, the real exchange rate in this case is (30 x 12)/480 = 360/480 = 0.75.
A loaf of bread in the U.S. costs $2. The same loaf of bread in Sweden costs 10 kroner. If the exchange rate is 4 kroner per U.S. dollar, then the real exchange rate is
0.8 so the good is more expensive in Sweden The real exchange rate is calculated as (Nominal exchange rate x domestic price)/Foreign price. Using the numbers for this case, the real exchange rate equals (4 kroner per dollar * 2 dollars)/10 kroners = 8/10 = 0.8. When the real exchange rate between another country and the U.S. is less than one, the good is more expensive in the other country. One way to see this is that, if the nominal exchange rate reflected purchasing-power parity, the price of a loaf of bread in Sweden would be 4 kroner per dollar * 2 dollars = 8 kroner. Since the price is instead 10 kroner, there is less purchasing power for bread in Sweden than in the United States, meaning that bread is more expensive in Sweden and less expensive in the U.S.
According to purchasing-power parity, if the same basket of goods costs $150 in the U.S. and 100 francs in Switzerland, then the nominal exchange rate is
2/3 francs per dollar Purchasing-power parity implies that the nominal exchange rate is the ratio of the price level in a foreign country to the price level in the United States. Since the price for a basket of goods in Switzerland is 100 francs and the price for the same basket is $150 in the United States, for purchasing-power parity to hold, the nominal exchange rate would have to be 100/150 = 2/3.
Purchasing-power parity theory does not hold at all times because many goods are not easily transported.
True One of the reasons that purchasing-power parity theory does not hold at all times is that many goods, such as personal services, are not easily transported. Because they cannot be moved between countries, arbitrageurs cannot take advantage of price differences in these markets, so there is less pressure for prices to change in the direction that would bring about purchasing-power parity.
Which of the following is an example of U.S. foreign portfolio investment?
U.S. citizen buys bonds issued by the Singapore government Portfolio investment is investment in an asset that is not directly managed, while the new car factory and the cosmetics store would qualify as direct investments. U.S. foreign investment is purchases by U.S. citizens or companies of assets located outside the United States, so the bond issued by the U.S. government and the cosmetic store in New York do not qualify. By process of elimination, only the purchase of a Singapore government bond by a U.S. citizen would qualify as U.S. foreign portfolio investment.
If Vietnam has a trade surplus,
foreign countries purchase more Vietnamese assets than Vietnam purchases from them. This makes Vietnamese saving greater than Vietnamese domestic investment. If Vietnam has a trade surplus, its net exports are positive, which means it must have positive net capital outflow. If Vietnames net capital outflow is positive, purchases by Vietnam of foreign assets are greater than purchases by foreigners of Vietnamese assets. Because of the identity S = I + NCO, positive net capital outflow also means that S > I: Vietnamese saving is greater than Vietnamese domestic investment.
If purchasing-power parity holds, all of the following are true except
the nominal exchange rate is the ratio of U.S. prices to foreign prices Purchasing-power parity means that real exchange rate is equal to one, which means that a dollar will buy enough foreign currency goods as to buy as many it does in the United States. In other words, the purchasing power of the dollar is the same in the U.S. as in foreign countries. Purchasing-power parity also implies that the nominal exchange rate is the ratio of foreign prices to U.S. prices, not the ratio of U.S. prices to foreign prices.
Suppose the price of a new car is $25,000 in the United States, and the nominal exchange rate between South African and the United States is 10 South African rand per U.S. dollar. If purchasing-power parity holds, the price of the same car in South Africa will be
250,000 rand When purchasing-power parity holds, the ratio of prices in a country equals the nominal exchange rate. As a result, if the nominal exchange rate is 10 rand per dollar and a new car is $25,000 in the United States, the car would have to be 250,000 rand in South Africa, as 250,000 rand/$25,000 equals 10 rand per dollar.
If a good that cost $1 in the U.S. cost two-thirds of a Swiss franc in Switzerland, the real exchange rate would be computed as how many Swiss goods per U.S. goods?
50% more than the number of Swiss francs it takes to buy a U.S. dollar Because the real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, filling in the given values for Domestic price of 1 and Foreign price of 2/3 yields Real exchange rate = (Nominal exchange rate x 1)/2/3 = 3/2 x Nominal exchange rate = 150% x Nominal exchange rate.
A French company uses Canadian dollars it already owned to purchase bonds issued by a company in Canada. Which of these countries has an increase in net capital outflow?
Neither Canada nor France Neither Canada nor France experience a change in capital flows because, by moving its Canadian assets from Canadian dollars to Canadian stock, the French company is not changing the amount of Canadian assets it owns, just the type.
Suppose that more Americans decide to vacation in France and that Americans purchase more French government bonds. Ignoring how payments are made for these purchases,
The first action by itself lowers U.S. net exports, the second action by itself raises U.S. net capital outflow. When Americans vacation in France, it counts as an import for the U.S. and an export for France, so more Americans vacationing in France raises American imports, which lowers American net exports. When Americans purchase more French government bonds, capital is flowing from the U.S. to France, so U.S. net capital outflow increases. Since any decrease in net exports must be matched by a decrease in net capital outflows, there would have to be other counterbalancing transactions, like exports from the U.S. to France and/or purchases of U.S. assets by French people, to equalize the changes in net exports and net capital outflows.
A latte costs $3 in the United States. If the nominal exchange rate were 800 Japanese yen per U.S. dollar and the real exchange rate were 0.75, what would the price of a latte be in Japan?
The real exchange rate = (Nominal exchange rate X Domestic price)/Foreign price, so rearranging to solve for the Foreign price gives Foreign price = (Nominal exchange rate X Domestic price)/real exchange rate. Substituting the values given yields Foreign price = (800 x 3)/0.75 = 3,200 yen.
According to purchasing-power parity, if the price of a basket of goods in the U.S. rose from $1,200 to $1,260 and the price of the same basket of goods rose from 11,000 Mexican pesos to 11,440 Mexican pesos in Mexico, then the
nominal exchange rate would depreciate. In this case, the price level has increased 5% in the United States and 4% in Mexico. When purchasing-power parity holds, changes in the price level between countries do not change the real exchange rate. Purchasing-power parity also means that the nominal exchange rate is equal to the price level in other countries divided by the price level in the United States, so if the price level in other countries rises by less than in the United States, the nominal exchange rate will fall (because the denominator is rising faster than the numerator), which is called depreciation.
According to purchasing-power parity, if the price level in the U.S. rises more than in New Zealand, then which of the following falls?
the U.S. nominal exchange rate, but not the U.S. real exchange rate If purchasing-power parity holds, changes in relative price levels do not change the real exchange rate, as purchasing-power parity means that the real exchange rate is always 1. To keep the real exchange rate at 1, the nominal exchange rate has to adjust in response to changes in the price level. In fact, under purchasing-power parity, the nominal exchange rate equals the foreign price level/domestic price level. As a result, if the U.S. (domestic) price level rises more than in New Zealand, the nominal exchange rate will fall.
If domestic residents of New Zealand purchase $60 million of foreign assets and foreigners purchase $50 million of New Zealand assets, then New Zealand's net capital outflow is
$10 million, so it must have a trade surplus. New Zealand's net capital outflow is calculated as the $60 million of purchases of foreign assets by New Zealand residents minus the $50 million of purchases of New Zealand assets by foreign residents, which equals $10 million. Since net capital outflow is positive, and net capital outflow must equal net exports, net exports is positive, meaning that there is a trade surplus.
If a country had a trade surplus of $15 billion and then its exports rose by $10 billion and its imports fell by $5, its net exports would now be
A trade surplus of $15 billion means that net exports is currently $15 billion. Since net exports is equal to exports minus imports, this means that exports had been $15 billion more than imports. If exports rise by $10 billion, while imports fall by $5 billion, then the difference between exports and imports (net exports) will grow by $15 billion. In this case, net exports will grow to $30 billion. For example, suppose exports had initially been $30 billion, and imports had initially been $15 billion. If exports rise by $10 billion, and imports fall by $5 billion, then exports are now $40 billion and imports are now $10 billion. Therefore net exports would be $40 billion - $10 billion = $30 billion..
Sophie buys a coffee shop in Vancouver, Canada and reopens it as a branch of her Seattle coffee chain. Marlowe imports a Peruvian milling stone for her bakery in Los Angeles. Sophie and Marlowe are both U.S. residents. Whose action is an example of U.S. foreign direct investment?
Sophie's but not Marlowe's U.S. foreign direct investment is the purchase by U.S. residents of assets in other countries that they will directly manage. Sophie's purchase of a coffee shop in Canada qualifies, while Marlowe's action is an example of domestic investment by a U.S. citizen since the bakery is located in the U.S.
The nominal exchange rate is 12 South African rand, 600 Chilean pesos, 7 Croatian kuna, or 60 Indian rupees per U.S. dollar. A fast food breakfast costs $5 in the U.S., 36 rand in South Africa, 3,000 pesos in Chile, 28 kuna in Croatia, or 240 rupees in India. According to these numbers, where is the real exchange rate between American and foreign goods the highest?
South Africa The real exchange rate is calculated as (Nominal exchange rate X Domestic price)/Foreign price, but because this is a question of comparison and the domestic price of $5 is the same in each case, only the Nominal exchange rate/Foreign price is needed to determine the highest real exchange rate. Comparing 12/36, 600/3,000, 7/28, 60/240 reveals that South Africa has the highest real exchange rate.
According to purchasing-power parity, if a country's central bank wanted the country's currency to appreciate relative to other currencies in the world, it would have to
decrease the money supply, which would also cause the country's price level to fall According to purchasing-power parity, the nominal exchange rate reflects the price level in other countries relative to the price level at home. So, if a country's central bank wants the nominal exchange rate to appreciate---that is, go up---and it can't control the price level in other countries, it needs to decrease the price level at home (the denominator). It can decrease the price level at home by decreasing the money supply.
The purchase of U.S. government bonds by Saudi Arabian residents is an example of
foreign portfolio investment by Saudi Arabian residents. When people purchase assets that they don't actively manage, like bonds, as opposed to a restaurant, they are making a portfolio investment. Since foreigners are doing this in the U.S., it is called foreign portfolio investment.
Dmitri, a Canadian resident, buys $10,000 worth of olives from Cyprus. By itself this purchase
increases Canadian imports by $10,000 and decreases Canadian net exports by $10,000. Dmitri is buying $10,000 of goods produced outside Canada, so he is increasing Canadian imports by $10,000. Because net exports is exports minus imports, when Canadian imports increase by $10,000, Canadian net exports decrease by $10,000.
For an economy as a whole, net capital outflow
is always equal to net exports Because of the way net capital outflow (NCO) and net exports (NX) are defined, NCO = NX is an identity: an equation that must always hold. As a result, net capital outflow is always equal to net exports.
Suppose that Thailand's saving exceeds its domestic investment. In this case, Thailand has
positive net capital outflows and positive net exports. Since S = I + NCO, when a country's saving exceeds its domestic investment (S>I), NCO has to be positive to equalize the difference. More intuitively, if the amount that a country saves each year is greater than the country's domestic investment, the remaining capital has to flow out of the country. Whenever a country's net capital outflow is positive, net exports have to be positive also.
If the nominal exchange rate remains at 30 Thai bhat per U.S. dollar while prices in Thailand rise more slowly than in the United States, then the real exchange rate of Thai goods for U.S. goods
rises If purchasing-power parity held, the real exchange rate would remain constant at 1. However, purchasing-power parity implies that the nominal exchange rate changes with relative price levels between countries, so, since the nominal exchange rate remains at 30, purchasing-power parity does not hold in this situation. The real exchange rate is equal to (Nominal exchange rate x Price level in the United States)/Price level in Thailand. Since the price level in Thailand rises more slowly in Thailand than in the United States, the numerator of this equation rises more quickly than the denominator, causing the real exchange rate to rise.
If the exchange rate is 7 Argentinian pesos per U.S. dollar, a side of beef costs 6,000 Argentinian pesos in Argentina, and a side of beef costs $1,000 in the U.S., then
the real exchange rate is greater than one and arbitrageurs could profit by buying beef in Argentina and selling them in the U.S. The real exchange rate is calculated as (Nominal exchange rate X domestic price)/Foreign price. Using the numbers for this case, the real exchange rate equals (7 Argentinean pesos per U.S. dollar x $1,000)/6,000 Argentinean pesos = 1.167. Since the real exchange rate is more than one, beef is less expensive in Argentina than in the U.S., so arbitrageurs could profit by buying beef in Argentina and selling it in the U.S.
If a dollar buys less wheat in Russia than in the U.S., then
the real exchange rate is less than 1; a profit may be made by buying wheat in the U.S. and selling it in Russia. The real exchange rate for wheat between Russia and the U.S. can be calculated as the amount of wheat that can be bought with $1 in Russia divided by the amount of wheat that can be bought with $1 in the United States. If $1 buys less wheat in Russia than in the U.S., the real exchange rate is less than 1. Because more wheat can be bought for a dollar in the U.S. than in Russia, a profit could be made from taking $1 in the U.S., buying wheat here, transporting it to Russia, and selling it in Russia, where the value would be more than $1.
