Chapter 17-The Foreign Exchange Market and Determination of Exchange Rates
If the dollar appreciates from 1.5 Brazilian reals per dollar to 2.0 reals per dollar, the real depreciates from ________ per real to ________ per real. A) $0.67; $0.50 B) $0.33; $0.50 C) $0.75; $0.50 D) $0.50; $0.67 E) $0.50; $0.75
A) $0.67; $0.50
On January 25, 2009, one U.S. dollar traded on the foreign exchange market for about 49.0 Indian rupees. Thus, one Indian rupee would have purchased about ________ U.S. dollars. A) 0.02 B) 1.20 C) 7.00 D) 49.0
A) 0.02
On January 25, 2009, one U.S. dollar traded on the foreign exchange market for about 3.33 Romanian new lei. Therefore, one Romanian new lei would have purchased about ________ U.S. dollars. A) 0.30 B) 1.86 C) 2.86 D) 3.33
A) 0.30
If the U.S. dollar appreciates from 1.25 Swiss franc per U.S. dollar to 1.5 francs per dollar, then the franc depreciates from ________ U.S. dollars per franc to ________ U.S. dollars per franc. A) 0.80; 0.67 B) 0.67; 0.80 C) 0.50; 0.33 D) 0.33; 0.50
A) 0.80; 0.67
If the Japanese yen appreciates from $0.01 per yen to $0.02 per yen, the U.S. dollar depreciates from ________ per dollar to ________ per dollar. A) 100¥; 50¥ B) 10¥; 5¥ C) 5¥; 10¥ D) 50¥; 100¥
A) 100¥; 50¥
________ in the domestic interest rate causes the demand for domestic assets to increase and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
A) An increase; appreciate
________ in the domestic interest rate causes the demand for domestic assets to shift to the right and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
A) An increase; appreciate
________ in the expected future domestic exchange rate causes the demand for domestic assets to increase and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
A) An increase; appreciate
________ in the expected future domestic exchange rate causes the demand for domestic assets to shift to the right and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
A) An increase; appreciate
________ in the domestic interest rate causes the demand for domestic assets to ________ and the domestic currency to appreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
A) An increase; increase
________ in the expected future domestic exchange rate causes the demand for domestic assets to ________ and the domestic currency to appreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
A) An increase; increase
________ in the domestic interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to appreciate, everything else held constant. A) An increase; right B) An increase; left C) A decrease; right D) A decrease; left
A) An increase; right
________ in the expected future domestic exchange rate causes the demand for domestic assets to shift to the ________ and the domestic currency to appreciate, everything else held constant. A) An increase; right B) An increase; left C) A decrease; right D) A decrease; left
A) An increase; right
Although foreign exchange market trades are said to involve the buying and selling of currencies, most trades involve the buying and selling of A) bank deposits denominated in different currencies. B) SDRs. C) gold. D) ECUs.
A) Bank deposits denominated in different currencies.
Today 1 euro can be purchased for $1.10. This is the A) spot exchange rate. B) forward exchange rate. C) fixed exchange rate. D) financial exchange rate.
A) Spot exchange rate
Assume that the following are the predicted inflation rates in these countries for the year: 2% for the United States, 3% for Canada; 4% for Mexico, and 5% for Brazil. According to the purchasing power parity and everything else held constant, which of the following would we expect to happen? A) The Brazilian real will depreciate against the U.S. dollar. B) The Mexican peso will depreciate against the Brazilian real. C) The Canadian dollar will depreciate against the Mexican peso. D) The U.S. dollar will depreciate against the Canadian dollar.
A) The Brazilian real will depreciate against the U.S. dollar.
The theory of PPP suggests that if one countryʹs price level rises relative to anotherʹs, its currency should A) depreciate in the long run. B) appreciate in the long run. C) depreciate in the short run. D) appreciate in the short run.
A) depreciate in the long run.
The theory of PPP suggests that if one countryʹs price level rises relative to anotherʹs, its currency should A) depreciate. B) appreciate. C) float. D) do none of the above.
A) depreciate.
Anything that increases the demand for foreign goods relative to domestic goods tends to ________ the domestic currency because domestic goods will only continue to sell well if the value of the domestic currency is ________, everything else held constant. A) depreciate; lower B) depreciate; higher C) appreciate; lower D) appreciate; higher
A) depreciate; lower
If the real exchange rate between the United States and Japan is ________, then it is cheaper to buy goods in Japan than in the United States. A) greater than 1.0 B) greater than 0.5 C) less than 0.5 D) less than 1.0
A) greater than 1.0
A decrease in the foreign interest rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
A) increase; appreciate
An increase in the domestic interest rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
A) increase; appreciate
An increase in the expected future domestic exchange rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
A) increase; appreciate
Suppose that the European Central Bank enacts expansionary policy. Everything else held constant, this will cause the demand for U.S. assets to ________ and the U.S. dollar to ________. A) increase; appreciate B) decrease; appreciate C) increase; depreciate D) decrease; depreciate
A) increase; appreciate
Suppose that the Federal Reserve conducts an open market sale. Everything else held constant, this will cause the demand for U.S. assets to ________ and the U.S. dollar will ________. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
A) increase; appreciate
Everything else held constant, when a countryʹs currency appreciates, the countryʹs goods abroad become ________ expensive and foreign goods in that country become ________ expensive. A) more; less B) more; more C) less; less D) less; more
A) more; less
Everything else held constant, when the current value of the domestic exchange rate increases, the ________ of domestic assets ________. A) quantity supplied; does not change B) supply; decreases C) quantity supplied; increases D) supply; increases
A) quantity supplied; does not change
A decrease in the foreign interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
A) right; appreciate
An increase in the domestic interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
A) right; appreciate
An increase in the expected future domestic exchange rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
A) right; appreciate
If the inflation rate in the United States is higher than that in Mexico and productivity is growing at a slower rate in the United States than in Mexico, then, in the long run, ________, everything else held constant. A) the Mexican peso will appreciate relative to the U.S. dollar B) the Mexican peso will depreciate relative to the U.S. dollar C) the Mexican peso will either appreciate, depreciate, or remain constant relative to the U.S. dollar D) there will be no effect on the Mexican peso relative to the U.S. dollar
A) the Mexican peso will appreciate relative to the U.S. dollar
According to the purchasing power parity theory, a rise in the United States price level of 5 percent, and a rise in the Mexican price level of 6 percent cause A) the dollar to appreciate 1 percent relative to the peso. B) the dollar to depreciate 1 percent relative to the peso. C) the dollar to depreciate 5 percent relative to the peso. D) the dollar to appreciate 5 percent relative to the peso.
A) the dollar to appreciate 1 percent relative to the peso.
The ________ suggests that the most important factor affecting the demand for domestic and foreign assets is the expected return on domestic assets relative to foreign assets. A) theory of asset demand B) law of one price C) interest parity condition D) theory of foreign capital mobility
A) theory of asset demand
The ________ states that exchange rates between any two currencies will adjust to reflect changes in the price levels of the two countries. A) theory of purchasing power parity B) law of one price C) theory of money neutrality D) quantity theory of money
A) theory of purchasing power parity
On January 25, 2009, one U.S. dollar traded on the foreign exchange market for about 1.15 Swiss francs. Therefore, one Swiss franc would have purchased about ________ U.S. dollars. A) 0.30 B) 0.87 C) 1.15 D) 3.10
B) 0.87
________ in the foreign interest rate causes the demand for domestic assets to ________ and the domestic currency to depreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
B) An increase; decrease
________ in the foreign interest rate causes the demand for domestic assets to decrease and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
B) An increase; depreciate
________ in the foreign interest rate causes the demand for domestic assets to shift to the left and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
B) An increase; depreciate
________ in the foreign interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to depreciate, everything else held constant. A) An increase; right B) An increase; left C) A decrease; right D) A decrease; left
B) An increase; left
The immediate (two-day) exchange of one currency for another is a A) forward transaction. B) spot transaction. C) money transaction. D) exchange transaction.
B) Spot transaction
Exchange rates are determined in A) the money market. B) the foreign exchange market. C) the stock market. D) the capital market.
B) The foreign exchange market
The theory of PPP suggests that if one countryʹs price level falls relative to anotherʹs, its currency should A) depreciate in the long run. B) appreciate in the long run. C) appreciate in the short run. D) depreciate in the short run.
B) appreciate in the long run.
The theory of PPP suggests that if one countryʹs price level falls relative to anotherʹs, its currency should A) depreciate. B) appreciate. C) float. D) do none of the above.
B) appreciate.
Everything else held constant, increased demand for a countryʹs exports causes its currency to ________ in the long run, while increased demand for imports causes its currency to ________. A) appreciate; appreciate B) appreciate; depreciate C) depreciate; appreciate D) depreciate; depreciate
B) appreciate; depreciate
An increase in productivity in a country will cause its currency to ________ because it can produce goods at a ________ price, everything else held constant. A) depreciate; lower B) appreciate; lower C) depreciate; higher D) appreciate; higher
B) appreciate; lower
When the exchange rate for the Mexican peso changes from 9 pesos to the U.S. dollar to 10 pesos to the U.S. dollar, then the Mexican peso has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
B) depreciated; appreciated
When the value of the British pound changes from $1.50 to $1.25, then the pound has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
B) depreciated; appreciated
When the value of the dollar changes from £0.5 to £0.75, then the British pound has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
B) depreciated; appreciated
When Americans or foreigners expect the return on ________ assets to be high relative to the return on ________ assets, there is a higher demand for dollar assets and a correspondingly lower demand for foreign assets. A) dollar; dollar B) dollar; foreign C) foreign; dollar D) foreign; foreign
B) dollar; foreign
When Americans or foreigners expect the return on ________ assets to be high relative to the return on ________ assets, there is a ________ demand for dollar assets, everything else held constant. A) dollar; foreign; constant B) dollar; foreign; higher C) foreign; dollar; higher D) foreign; dollar; constant
B) dollar; foreign; higher
When Americans or foreigners expect the return on dollar assets to be high relative to the return on foreign assets, there is a ________ demand for dollar assets and a correspondingly ________ demand for foreign assets. A) higher; higher B) higher; lower C) lower; higher D) lower; lower
B) higher; lower
If the Brazilian demand for American exports rises at the same time that U.S. productivity rises relative to Brazilian productivity, then, in the long run, ________, everything else held constant. A) the Brazilian real will appreciate relative to the U.S. dollar B) the Brazilian real will depreciate relative to the U.S. dollar C) the Brazilian real will either appreciate, depreciate, or remain constant relative to the U.S. dollar D) there is no effect on the Brazilian real relative to the U.S. dollar
B) the Brazilian real will depreciate relative to the U.S. dollar
If the U.S. Congress imposes a quota on imports of Japanese cars due to claims of ʺunfairʺ trade practices, and Japanese demand for American exports increases at the same time, then, in the long run ________, everything else held constant. A) the Japanese yen will appreciate relative to the U.S. dollar B) the Japanese yen will depreciate relative to the U.S. dollar C) the Japanese yen will either appreciate, depreciate or remain constant against the U.S. dollar D) there will be no effect on the Japanese yen relative to the U.S. dollar
B) the Japanese yen will depreciate relative to the U.S. dollar
The theory of asset demand suggests that the most important factor affecting the demand for domestic and foreign assets is A) the level of trade and capital flows. B) the expected return on these assets relative to one another. C) the liquidity of these assets relative to one another. D) the riskiness of these assets relative to one another.
B) the expected return on these assets relative to one another.
The starting point for understanding how exchange rates are determined is a simple idea called ________, which states: if two countries produce an identical good, the price of the good should be the same throughout the world no matter which country produces it. A) Greshamʹs law B) the law of one price C) purchasing power parity D) arbitrage
B) the law of one price
If the British pound appreciates from $0.50 per pound to $0.75 per pound, the U.S. dollar depreciates from ________ per dollar to ________ per dollar. A) £2; £2.5 B) £2; £1.33 C) £2; £1.5 D) £2; £1.25
B) £2; £1.33
According to PPP, the real exchange rate between two countries will always equal ________. A) 0.0 B) 0.5 C) 1.0 D) 1.5
C) 1.0
According to the law of one price, if the price of Colombian coffee is 100 Colombian pesos per pound and the price of Brazilian coffee is 4 Brazilian reals per pound, then the exchange rate between the Colombian peso and the Brazilian real is: A) 40 pesos per real. B) 100 pesos per real. C) 25 pesos per real. D) 0.4 pesos per real.
C) 25 pesos per real.
________ in the foreign interest rate causes the demand for domestic assets to increase and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
C) A decrease; appreciate
________ in the foreign interest rate causes the demand for domestic assets to shift to the right and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
C) A decrease; appreciate
________ in the foreign interest rate causes the demand for domestic assets to ________ and the domestic currency to appreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
C) A decrease; increase
________ in the foreign interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to appreciate, everything else held constant. A) An increase; right B) An increase; left C) A decrease; right D) A decrease; left
C) A decrease; right
In an agreement to exchange dollars for euros in three months at a price of $0.90 per euro, the price is the A) spot exchange rate. B) money exchange rate. C) forward exchange rate. D) fixed exchange rate.
C) Forward exchange rate
An agreement to exchange dollar bank deposits for euro bank deposits in one month is a A) spot transaction. B) future transaction. C) forward transaction. D) deposit transaction.
C) Forward transaction
If the dollar depreciates relative to the Swiss franc A) Swiss chocolate will become cheaper in the United States. B) American computers will become more expensive in Switzerland. C) Swiss chocolate will become more expensive in the United States. D) Swiss computers will become cheaper in the United States.
C) Swiss chocolate will become more expensive in the United States.
When the exchange rate for the Mexican peso changes from 10 pesos to the U.S dollar to 9 pesos to the U.S. dollar, then the Mexican peso has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
C) appreciated; depreciated
When the value of the British pound changes from $1.25 to $1.50, the pound has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
C) appreciated; depreciated
When the value of the dollar changes from £0.75 to £0.5, then the British pound has ________ and the U.S. dollar has ________. A) appreciated; appreciated B) depreciated; appreciated C) appreciated; depreciated D) depreciated; depreciated
C) appreciated; depreciated
In the long run, a rise in a countryʹs price level (relative to the foreign price level) causes its currency to ________, while a fall in the countryʹs relative price level causes its currency to ________. A) appreciate; appreciate B) appreciate; depreciate C) depreciate; appreciate D) depreciate; depreciate
C) depreciate; appreciate
Lower tariffs and quotas cause a countryʹs currency to ________ in the ________ run, everything else held constant. A) depreciate; short B) appreciate; short C) depreciate; long D) appreciate; long
C) depreciate; long
When the exchange rate for the British pound changes from $1.80 per pound to $1.60 per pound, then, holding everything else constant, the pound has ________ and ________ expensive. A) appreciated; British cars sold in the United States become more B) appreciated; British cars sold in the United States become less C) depreciated; American wheat sold in Britain becomes more D) depreciated; American wheat sold in Britain becomes less
C) depreciated; American wheat sold in Britain becomes more
As the relative expected return on dollar assets increases, foreigners will want to hold more ________ assets and less ________ assets, everything else held constant. A) foreign; foreign B) foreign; dollar C) dollar; foreign D) dollar; dollar
C) dollar; foreign
The theory of asset demand suggests that the most important factor affecting the demand for domestic and foreign assets is the ________ on these assets relative to one another. A) interest rate B) risk C) expected return D) liquidity
C) expected return
Everything else held constant, increased demand for a countryʹs ________ causes its currency to appreciate in the long run, while increased demand for ________ causes its currency to depreciate. A) imports; imports B) imports; exports C) exports; imports D) exports; exports
C) exports; imports
The theory of purchasing power parity cannot fully explain exchange rate movements because A) all goods are identical even if produced in different countries. B) monetary policy differs across countries. C) some goods are not traded between countries. D) fiscal policy differs across countries.
C) some goods are not traded between countries.
________ in the domestic interest rate causes the demand for domestic assets to ________ and the domestic currency to depreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
D) A decrease; decrease
________ in the expected future domestic exchange rate causes the demand for domestic assets to ________ and the domestic currency to depreciate, everything else held constant. A) An increase; increase B) An increase; decrease C) A decrease; increase D) A decrease; decrease
D) A decrease; decrease
________ in the domestic interest rate causes the demand for domestic assets to decrease and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
D) A decrease; depreciate
________ in the domestic interest rate causes the demand for domestic assets to shift to the left and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
D) A decrease; depreciate
________ in the expected future domestic exchange rate causes the demand for domestic assets to decrease and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
D) A decrease; depreciate
________ in the expected future domestic exchange rate causes the demand for domestic assets to shift to the left and the domestic currency to ________, everything else held constant. A) An increase; appreciate B) An increase; depreciate C) A decrease; appreciate D) A decrease; depreciate
D) A decrease; depreciate
________ in the domestic interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to depreciate, everything else held constant. A) An increase; right B) An increase; left C) A decrease; right D) A decrease; left
D) A decrease; left
The exchange rate is: A) the price of one currency relative to gold. B) the value of a currency relative to inflation. C) the change in the value of money over time. D) the price of one currency relative to another.
D) The price of one currency relative to another
Higher tariffs and quotas cause a countryʹs currency to ________ in the ________ run, everything else held constant. A) depreciate; short B) appreciate; short C) depreciate; long D) appreciate; long
D) appreciate; long
A decrease in the domestic interest rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
D) decrease; depreciate
A decrease in the expected future domestic exchange rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
D) decrease; depreciate
An increase in the foreign interest rate causes the demand for domestic assets to ________ and the domestic currency to ________, everything else held constant. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
D) decrease; depreciate
Suppose that the European Central Bank conducts a main refinancing sale. Everything else held constant, this would cause the demand for U.S. assets to ________ and the U.S. dollar will ________. A) increase; appreciate B) increase; depreciate C) decrease; appreciate D) decrease; depreciate
D) decrease; depreciate
Suppose that the Federal Reserve enacts expansionary policy. Everything else held constant, this will cause the demand for U.S. assets to ________ and the U.S. dollar to ________. A) increase; appreciate B) decrease; appreciate C) increase; depreciate D) decrease; depreciate
D) decrease; depreciate
Everything else held constant, if a factor decreases the demand for ________ goods relative to ________ goods, the domestic currency will depreciate. A) foreign; domestic B) foreign; foreign C) domestic; domestic D) domestic; foreign
D) domestic; foreign
Everything else held constant, if a factor increases the demand for ________ goods relative to ________ goods, the domestic currency will appreciate. A) foreign; domestic B) foreign; foreign C) domestic; domestic D) domestic; foreign
D) domestic; foreign
If the 2005 inflation rate in Canada is 4 percent, and the inflation rate in Mexico is 2 percent, then the theory of purchasing power parity predicts that, during 2005, the value of the Canadian dollar in terms of Mexican pesos will A) rise by 6 percent. B) rise by 2 percent. C) fall by 6 percent. D) fall by 2 percent.
D) fall by 2 percent.
A decrease in the domestic interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
D) left; depreciate
A decrease in the expected future domestic exchange rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
D) left; depreciate
An increase in the foreign interest rate causes the demand for domestic assets to shift to the ________ and the domestic currency to ________, everything else held constant. A) right; appreciate B) right; depreciate C) left; appreciate D) left; depreciate
D) left; depreciate
Everything else held constant, when a countryʹs currency depreciates, its goods abroad become ________ expensive while foreign goods in that country become ________ expensive. A) more; less B) more; more C) less; less D) less; more
D) less; more
Everything else held constant, when the current value of the domestic currency increases, the ________ domestic assets ________. A) demand for; increases B) quantity demanded of; increases C) demand for; decreases D) quantity demanded of; decreases
D) quantity demanded of; decreases
If, in retaliation for ʺunfairʺ trade practices, Congress imposes a 30 percent tariff on Japanese DVD recorders, but at the same time, U.S. demand for Japanese goods increases, then, in the long run, ________, everything else held constant A) the Japanese yen should appreciate relative to the U.S. dollar B) the Japanese yen should depreciate relative to the U.S. dollar C) there is no effect on the Japanese yen relative to the U.S. dollar D) the Japanese yen could appreciate, depreciate or remain constant relative to the U.S. dollar
D) the Japanese yen could appreciate, depreciate or remain constant relative to the U.S. dollar
The theory of purchasing power parity states that exchange rates between any two currencies will adjust to reflect changes in A) the trade balances of the two countries. B) the current account balances of the two countries. C) fiscal policies of the two countries. D) the price levels of the two countries.
D) the price levels of the two countries.
Explain the law of one price and the theory of purchasing power parity. Why doesnʹt purchasing power parity explain all exchange rate movements? What factors determine long run exchange rates?
With no trade barriers and low transport costs, the law of one price states that the price of traded goods should be the same in all countries. The purchasing power parity theory extends the law of one price to total economies. PPP states that exchange rates should adjust to reflect changes in the price levels between two countries. PPP may fail to fully explain exchange rates because goods are not identical, and price levels include traded and nontraded goods and services. Long run exchange rates are determined by domestic price levels relative to foreign price levels, trade barriers, import and export demand, and productivity.
