Deck 10: Exchange Rates and Exchange Rate Systems

Question 1

If the Costa Rican colone is expected to depreciate in the future,it will temporarily appreciate as people move to take advantage based on this expectation.

Answer 1

False

Question 2

Most currency trades in London do not involve the British pound.

Answer 2

True

Question 3

A forward exchange market contract obligates the owner to make a trade at a specified exchange rate a fixed number of days in the future.

Answer 3

True

Question 4

Would each of the following groups be happy or unhappy if the Mexican peso appreciates against the U.S.dollar? Answer the question for each of the following:
(a) The U.S.pension funds holding Mexican government bonds
(b) U.S.tourists planning a trip to Mexico
(c) Mexican exporting manufacturers
(d) A Mexican firm trying to buy properties overseas

Question 5

A firm that buys foreign exchange in order to take advantage of higher foreign interest rates is

A)speculating.
B)demonstrating purchasing power parity.
C)engaging in interest rate arbitrage.
D)responding to fluctuations in the business cycle.
E)ignoring the nominal rate of exchange.

Question 6

Which of the following institutions is the most important participant in foreign currency markets?

A)A retail customer
B)A commercial bank
C)A foreign exchange broker
D)A central bank
E)None of the above.

Question 7

The spot rate is the rate at which foreign currencies will be exchanged a specified number of days in the future.

Question 8

The most important participants in foreign exchange markets are ________.

Question 9

When an individual or firm in the United States requests that a bank sell foreign exchange,the bank will probably

A)call a foreign bank and arrange a purchase.
B)call the central bank and arrange a purchase.
C)call another bank customer with foreign exchange holdings.
D)call another domestic bank and arrange a purchase.
E)call a foreign exchange broker and arrange a purchase.

Question 10

Speculation would involve using forward contracts and options to reduce the exchange rate risk on future foreign exchange transactions.

Question 11

When Jeneva went to Costa Rica in July 2008,a U.S.dollar was worth 550 colones.If today a U.S.dollar is worth 650 colones,it means that the U.S.dollar has depreciated against the colone.

Question 12

If Juana contracts to buy U.S.office equipment in U.S.dollars and her domestic currency depreciates against the U.S.dollar between the time the contract is signed and the bill is paid,she will wind up paying less for the equipment because she stayed in the spot market.

Question 13

How does the growth in the daily volume of foreign currency transactions compare with the growth rate of the global economy?

Question 14

Which currency is most commonly traded?

Question 15

Covered interest arbitrage involves both

A)the purchase of a foreign asset and a forward contract in the market for foreign exchange.
B)the purchase of a domestic asset and a spot contract in the market for foreign exchange.
C)the sale of a foreign asset and the purchase of a forward contract in the market for foreign exchange.
D)the sale of domestic stocks and the purchase of foreign bonds.
E)None of the above.

Question 16

In order to protect against foreign exchange risk,firms can use

A)the spot market for foreign exchange.
B)interest rate arbitrage.
C)purchasing power parity.
D)the forward market for foreign exchange.
E)the J-curve.

Question 17

What is the largest center for currency trading?

Question 18

If the forward rate is greater than the spot rate,what are markets signaling about their expectations for the future spot rates for the home currency?

Question 19

Suppose that the U.S.Open ticket costs $100 and the British Open ticket costs £50 and the exchange rate is $1.43.How much does the British Open ticket cost for an American attending the British Open?

Question 20

Suppose the dollar is subject to a floating exchange rate system and that R is the number of dollars per unit of foreign exchange.If R increases,then the dollar

A)depreciates.
B)appreciates.
C)is devalued.
D)is revalued.
E)Both A and C.

Question 21

If more European and Japanese firms want to build factories and expand their offshore investments in the United States,the supply of U.S.dollars on foreign exchange markets will increase as a result of this investment activity.

Question 22

If the Japanese central bank sells yen and buys U.S.dollars,the U.S.dollar will appreciate.

Question 23

Which of the following would NOT be a cause for an increased American demand for the Mexican peso?

A)The United States having lower interest rates than Mexico
B)Increased American demand for Mexican goods
C)The expectation by speculators that the value of the peso is edging up
D)More economic expansion in the United States
E)None of the above.

Question 24

A weak U.S.dollar leads to a higher volume of U.S.imports.

Question 25

According to the text,which of the following factors may make the theory of purchasing power parity unrealistic?

A)Purchasing power parity works only with traded goods.
B)Trading countries may stop exchanging goods once prices between them equalize.
C)Shipping,insurance,and transaction costs may reduce the implication of purchasing power parity.
D)Prices may not equalize if goods arbitrage is reduced by trade barriers.
E)The effects of purchasing power parity may not show up until many years have passed.

Question 26

If U.S.consumers increase their demand for foreign products and foreign travel,the U.S.dollar would tend to depreciate as more dollars are supplied to foreign exchange markets.

Question 27

A country that experiences higher real interest rates than other countries would expect its currency to depreciate.

Question 28

Imports tend to fall whenever a nation's currency appreciates because foreign products become more expensive to domestic consumers.

Question 29

If inflation in the rest of the world is lower than inflation in Brazil,Brazil's currency (the real)would tend to appreciate.

Question 30

An American firm that buys foreign exchange because its managers expect the dollar to depreciate is

A)increasing the supply of foreign exchange.
B)increasing the demand for foreign exchange.
C)speculating.
D)Both A and B.
E)Both B and C.

Question 31

If inflation is higher in the home market,what is expected to happen to the real value of the home currency as time passes?

Question 32

An increase in the U.S.demand for the Mexican peso

A)causes an increase in the U.S.dollar price of a Mexican peso.
B)causes the Mexican peso to appreciate.
C)causes the U.S.dollar to depreciate.
D)causes Mexican goods to be relatively more expensive.
E)All of the above.

Question 33

Suppose that the nominal exchange rate between the U.S.dollar and the Mexican peso is 0.10 dollars per peso.If Mexico's inflation is 10 percent and the United States' inflation is 0 percent,from the U.S.point of view,the real exchange rate

A)appreciates to 0.11 dollars per peso.
B)depreciates to 0.11 dollars per peso.
C)appreciates to 0.09 dollars per peso.
D)depreciates to 0.09 dollars per peso.
E)appreciates to 0.2 dollars per peso.

Question 34

All else equal,if Canada raises its interest rates,

A)the dollar depreciates.
B)the U.S.demand for Canadian dollars increases.
C)the Canadian supply of Canadian dollars increases.
D)Both A and B.
E)Both A and C.

Question 35

Suppose the exchange rates between the United States and Canada are in long-run equilibrium as defined by the idea of purchasing power parity.If the law of one price holds perfectly,then differences between U.S.and Canadian rates of inflation would

A)have no effect on nominal exchange rates.
B)be completely offset by changes in the real exchange rate.
C)be completely offset by changes in the nominal exchange rate.
D)violate the conditions for the law of one price.
E)lead to a change in the real purchasing power of each country's currency when it is converted to the other country's currency.

Question 36

If Mexicans increasingly lose confidence in their domestic financial markets and move their assets to other countries,the peso will depreciate.

Question 37

Which of the following is a FALSE statement concerning purchasing power parity?

A)Purchasing power parity states that dollars will tend to exchange for pounds at a rate that maintains a constant purchasing power of a given quantity of a currency.
B)Over the long term,a Big Mac in New York will tend to cost the same as a Big Mac in London.
C)There should not be significant deviations in the long-run value of purchasing power parity.
D)Over the long run,purchasing power parity exerts influence over exchange rates.
E)An overvalued dollar buys more in Britain than it does in the United States.

Question 38

How does rapid economic growth at home affect foreign exchange markets?

Question 39

All else equal and given the current system of exchange rates,if the United States enters a period of exceptionally strong growth,

A)the pressure on the dollar is to revalue.
B)the pressure on the dollar is to devalue.
C)the pressure on the dollar is to depreciate.
D)the pressure on the dollar is to appreciate.
E)Both A and D.

Question 40

Draw the demand for and supply of the U.S.dollar in each of the following cases.Diagram and explain in words the effect of each of the following events in the short run.Make sure to properly label the axes.In each case,assume the two countries under consideration are important trading partners.
(a) There is an increase in the real interest rates in the United States relative to Japan.
(b) Investment returns in the United States decrease relative to expected returns in Japan.
(c) Inflation in Japan fell relative to the inflation rate in the United States.
(d) The Japanese expect the value of the U.S.dollar to decline.
(e) The Federal Reserve raised interest rates fearing the inflationary pressures of a booming U.S.economy.

Question 41

How is dollarization different from monetary union?

Question 42

The Bretton Woods exchange rate system was an example of a

A)target zone.
B)managed float.
C)pure gold standard.
D)modified gold standard.
E)floating exchange rate system.

Question 43

What are the differences and similarities between a depreciation and devaluation of a currency?

Question 44

Currently the NAFTA nations do not meet the conditions for an optimal currency area.What are the two main reasons why?

Question 45

Which type of exchange rate system minimizes external shocks to an economy?

Question 46

Under a gold standard,countries should

A)keep the supply of their domestic money constant.
B)keep the supply of their domestic money fixed in proportion to their gold holdings.
C)keep the supply of foreign exchange less than their domestic money supply.
D)restrict the demand for foreign goods.
E)outlaw speculation.

Question 47

Under a fixed exchange standard,if the domestic demand for foreign exchange increases

A)the central monetary authority must meet the demand out of its reserves.
B)the central monetary authority must increase the supply of domestic money.
C)the fixed exchange standard will breakdown.
D)inflation will increase.
E)the domestic currency must be depreciated.

Question 48

When did major currencies begin floating against each other,ending the Bretton Woods system?

Question 49

A single currency area requires

A)mobile labor and synchronized business cycles.
B)immobile labor and synchronized business cycles.
C)immobile labor and mobile capital.
D)a political union.
E)mobile labor and unsynchronized business cycles.

Question 50

Which of the following is true?

A)If an exchange rate is allowed to vary across a fixed basket of currencies,it is called a hard peg.
B)If an exchange rate is not allowed to vary against the target currency,it is called a soft peg.
C)If an exchange is only allowed to fluctuate within a set band,it is considered to be a flexible exchange rate system.
D)A soft peg is when a currency's exchange rate is only allowed to fluctuate within a set band.
E)Any exchange rate policy other than completely flexible exchange rate systems is extremely uncommon today for currencies.

Question 51

What matters most to importers and exporters is the nominal exchange rate.

Question 52

Suppose that the nominal exchange rate between the U.S.dollar and the Canadian dollar is 0.75 U.S.dollars per Canadian dollar.If Canada's rate of inflation is 0 percent and the U.S.rate is 10 percent,then the real exchange rate for the U.S.dollar will

A)appreciate by about 9 percent.
B)appreciate by 10 percent.
C)depreciate by about 9 percent.
D)depreciate by 10 percent.
E)None of the above.

Question 53

The Smithsonian Agreement of 1971 was hailed by President Nixon as a fundamental reorganization of the international monetary system.In fact,what it accomplished was

A)the revaluation of the dollar.
B)the devaluation of the dollar.
C)the reduction of the gold content of the dollar.
D)the elimination of gold backing for the dollar.
E)Both B and C.

Question 54

According to purchasing power parity,which of the following is FALSE about an overvalued dollar compared to the Japanese yen?

A)U)S.merchants would be motivated to import more Japanese goods.
B)Japanese merchants would tend to export more to the United States.
C)Prices in the United States would tend to fall.
D)Over the long term,the exchange rate would fall.
E)Prices in Japan would tend to rise.

Question 55

The biggest disadvantage of a fixed exchange rate is the

A)increased probability of high inflation.
B)tradeoff between supporting the exchange rate and adjusting the trade balance.
C)tradeoff between supporting the exchange rate and maintaining economic growth.
D)increased probability of a trade deficit.
E)tradeoff between supporting the exchange rate and maintaining a balanced budget.

Question 56

Which of the following is NOT one of the determinants of the gains of adopting a single currency?

A)A well-synchronized business cycle involving all member countries
B)The possibility of factors of production to freely move across borders
C)The willingness and ability of member countries to design policies to address regional imbalances that may develop
D)Widening the common market by allowing other countries to join
E)None of the above.