Question 1

If it is widely expected that the British economy will experience more rapid inflation than the Australian economy,the pound will depreciate against the dollar under a system of floating exchange rates.

Accepted Answer

When a currency is expected to suffer from higher inflation than another currency, it typically loses value in the foreign exchange market. This would cause the pound to depreciate against the dollar under a floating exchange rate system.

Question 2

If the United States experiences an enormous wheat crop failure,it will have to import more wheat and the dollar's exchange value will depreciate under a system of floating exchange rates.

Accepted Answer

A crop failure would result in increased demand for wheat imports, which would increase the demand for foreign currency to purchase those imports, causing the US dollar to depreciate under a floating exchange rate system.

Question 3

The asset-markets approach views exchange-rate determination as similar to the stock market in which prices are volatile and expectations are important.

Accepted Answer

The statement accurately describes the asset-markets approach to exchange-rate determination, which emphasizes the role of financial markets and expectations in determining exchange rates.

Question 4

Long-run determinants of exchange rate include labor productivity levels,inflation rates,consumer preferences for goods and services,and trade barriers.

Accepted Answer

These are all factors that can have an impact on the exchange rate between two countries in the long run.

Question 5

Concerning exchange rate forecasting,technical analysis extrapolates from past exchange-rate trends while ignoring economic and political determinants of exchange rates.

Accepted Answer

Technical analysis relies solely on analyzing historical price and volume data to predict future trends. It does not take into consideration the factors that drive exchange rates, such as economic indicators, political events, or monetary policies. Therefore, it ignores important determinants of exchange rates.

Question 6

Econometric models are best suited for forecasting long-run exchange rates rather than short-run exchange rates.

Accepted Answer

Econometric models, which rely on historical data and economic theory to forecast future trends, often face challenges in accurately predicting short-term exchange rate movements due to market volatility and unexpected economic events. They are generally considered more effective for long-run forecasts where fundamental economic factors have a more pronounced impact.

Question 7

According to the "Big Mac" index,if a Big Mac costs $2.28 in the United States and 48 baht in Thailand (equivalent to $1.91),the baht is an undervalued currency.

Accepted Answer

The answer of According to the "Big Mac" index,if a...

Question 8

As the profitability of Japanese assets rises relative to the profitability of Australian assets,Australian residents will make additional investments in Japan; this results in an increased demand for yen and a depreciation of the dollar under a system of floating exchange rates.

Accepted Answer

As the profitability of Japanese assets increases, Australian residents are more likely to invest in Japan, which creates an increased demand for yen and a decrease in the value of the dollar. This is because the demand for yen increases due to increased investments, while the supply of yen remains unchanged, causing its value to rise. At the same time, the demand for dollars decreases due to decreased investments, while the supply of dollars remains unchanged, causing its value to fall. This is a classic example of the impact of exchange rates on international investment flows.

Question 9

If consumer tastes in the United States change in favor of goods produced in France,the demand for francs will increase which causes an appreciation of the dollar against the franc under a floating exchange rate system.

Accepted Answer

If consumer tastes in the United States change in favor of goods produced in France, the demand for francs will increase which causes a depreciation, not an appreciation, of the dollar against the franc under a floating exchange rate system.

Question 10

According to exchange-rate overshooting,an appreciation of the Australian dollar is likely to be greater over a long time period than over a short time period.

Accepted Answer

Exchange-rate overshooting suggests that in response to a shock, exchange rates will initially overadjust (overshoot) and then gradually move back to their long-term equilibrium level, implying a larger initial change followed by a correction rather than a greater change over a long period.

Question 11

Changes in market expectations have their greatest impact on exchange-rate changes over the long run as opposed to the short run.

Accepted Answer

Changes in market expectations can have immediate effects on exchange rates in the short run due to speculation and rapid adjustments in investment flows, whereas long-run exchange rate changes are more influenced by fundamental economic factors such as inflation rates, interest rates, and economic growth.

Question 12

According to the principle of exchange-rate overshooting,a short-run depreciation of a currency is likely to be greater than a long-run depreciation of that currency.

Accepted Answer

According to the principle of exchange-rate overshooting, a short-run depreciation of a currency is likely to be greater than a long-run depreciation because in the short run, prices are less flexible and the adjustment process takes longer, leading to larger changes in the exchange rate. In the long run, prices become more flexible and the adjustment process is completed, leading to smaller changes in the exchange rate.

Question 13

Given an efficient foreign exchange market,the spot rate is the rational approximation of the markets expectation of the forward rate that will exist at the end of the forward period.

Accepted Answer

In an efficient foreign exchange market, the spot rate reflects current market conditions and expectations, but the forward rate, which is agreed upon for future transactions, incorporates expectations about future changes in exchange rates due to interest rate differentials, inflation, and other economic factors. The forward rate is not simply a rational approximation of the future spot rate but is influenced by the interest rate parity, among other factors.

Question 14

If Japan realizes technological improvements in the production of automobiles,which lowers its production costs relative to foreign producers,Japanese exports will rise and the yen's exchange value will appreciate under a system of floating exchange rates.

Accepted Answer

If Japan is able to produce automobiles at a lower cost, it will become more competitive and its exports will increase. This increased demand for yen to purchase Japanese goods will cause its exchange rate to appreciate relative to other currencies under a floating exchange rate system.

Question 15

If Mexico applies tariffs to imports of manufactured goods,Mexico's demand for foreign exchange will rise and the peso will depreciate under a system of floating exchange rates.

Accepted Answer

The answer of If Mexico applies tariffs to imports of...

Question 16

According to the asset-markets approach,adjustments among financial assets are a key determinant of long-run movements in exchange rates.

Accepted Answer

The answer of According to the asset-markets approach,adjustments among financial...

Question 17

In the short run,exchange rates are primarily determined by investor expectations of returns on assets such as government securities and bank accounts.

Accepted Answer

In the short run, exchange rates are influenced by a variety of factors including investor expectations on returns of assets. However, other factors such as trade balances, inflation rates, and political stability can also impact exchange rates in the short term.

Question 18

Concerning exchange rate forecasting,fundamental analysis involves consideration of a variety of macroeconomic variables and policies that tend to affect currency values.

Accepted Answer

This is true. Fundamental analysis involves analyzing economic indicators such as GDP, inflation rates, interest rates, and government policies to determine the direction of currency values.

Question 19

According to the "Big Mac" index,if a Big Mac costs $2.28 in the United States and 25.75 krone in Denmark (equivalent to $4.25),the Danish krone is an undervalued currency.

Accepted Answer

According to the "Big Mac" index, if a Big Mac is more expensive in one country than in another, it suggests that the currency of the country with the more expensive Big Mac is overvalued, and the currency of the country with the cheaper Big Mac is undervalued. Therefore, in this case, the Danish krone is overvalued compared to the US dollar.

Question 20

Exchange-rate overshooting is based on the notion that the supply schedule of a currency is more elastic in the short run than in the long run.

Accepted Answer

Exchange-rate overshooting is based on the notion that prices are sticky in the short run, leading to more significant changes in exchange rates than in the long run, where prices can adjust.

Quiz 12: Exchange-rate Determination