Question 1

Which of the following is not true regarding limitations of PPP and the IFE?

Accepted Answer

All of the statements are true regarding the limitations of PPP and the IFE.

Question 2

Which of the following theories can be assessed using data that exists at one specific point in time?

Accepted Answer

Interest rate parity (IRP) is a theory that compares the interest rates of different currencies to determine the forward exchange rate. This theory can be assessed using data that exists at one specific point in time as it only requires information on the current interest rates of the currencies being compared. The other options, purchasing power parity (PPP) and international Fisher effect (IFE), require data on inflation rates and expected changes in exchange rates over time, which cannot be captured at a single point in time.

Question 3

Among the reasons that purchasing power parity (PPP) does not consistently occur are:

Accepted Answer

All of these factors can affect exchange rates and prevent PPP from consistently occurring. Interest rate differentials can cause fluctuations in exchange rates, national income differentials can lead to unequal purchasing power, and government controls can limit free market adjustments. Additionally, if there are no substitutable goods available, supply and demand may not adjust to reach parity.

Question 4

​The international Fisher effect (IFE) suggests that the foreign currency will appreciate when:

Accepted Answer

The IFE states that the expected change in the exchange rate between two currencies is equal to the difference in their nominal interest rates. Specifically, if the nominal interest rate in the home country is higher than the nominal interest rate in the foreign country, then the home currency is expected to appreciate relative to the foreign currency. Therefore, option A is correct. Option B refers to the real interest rates, which are the nominal interest rates adjusted for inflation, and is not directly related to the IFE. Option C is incorrect because it compares a nominal interest rate with an inflation rate, which are not directly comparable. Option D is also incorrect because if the foreign inflation rate exceeds the home inflation rate, then the foreign currency is expected to depreciate relative to the home currency.

Question 5

The inflation rate in the United States is 4 percent, while the inflation rate in Japan is 1.5 percent. The current exchange rate for the Japanese yen (¥) is $0.0080. After supply and demand for the Japanese yen have adjusted according to purchasing power parity, the new exchange rate for the yen will be:

Accepted Answer

According to the purchasing power parity theory, countries with high inflation rates will experience depreciation in their currency values, while countries with low inflation rates will experience appreciation in their currency values. Therefore, the Japanese yen will appreciate relative to the US dollar. The percentage difference in inflation rates is (4-1.5)/100 = 0.025. Therefore, the percentage change in the exchange rate will be approximately 0.025. The current exchange rate is ¥0.0080 = $0.0080. Thus, the new exchange rate will be approximately $0.0080 + ($0.0080 x 0.025) = $0.0082. Therefore, the answer is B.

Question 6

If interest rates on the euro are consistently below U.S. interest rates, then for the international Fisher effect (IFE) to hold:​

Accepted Answer

The IFE states that the expected change in the exchange rate between two currencies is equal to the difference in their interest rates. If interest rates on the euro are consistently below U.S. interest rates, then the euro would be expected to depreciate against the dollar.

Question 7

​According to the international Fisher effect (IFE):

Accepted Answer

The international Fisher effect (IFE) states that the exchange rate-adjusted rate of return on a foreign investment should be equal to the interest rate on a local money market investment. This is because the expected change in the exchange rate should offset the difference in interest rates between the two countries.

Question 8

Assume U.S. and Swiss investors require a real rate of return of 3 percent. Assume the nominal U.S. interest rate is 6 percent and the nominal Swiss rate is 4 percent. According to the international Fisher effect, the Swiss franc will ____ by about ____.

Accepted Answer

The answer of Assume U.S. and Swiss investors require a...

Question 9

​Assume a two-country world: Country A and Country B. Which of the following is correct about purchasing power parity (PPP) as related to these two countries?

Accepted Answer

Purchasing power parity (PPP) theory suggests that in the long run, exchange rates will adjust so that an identical good in two different countries will have the same price when expressed in a common currency. If Country A's inflation rate is higher than Country B's, it means prices are rising faster in Country A. To maintain PPP, Country A's currency must weaken relative to Country B's currency to equalize the prices of goods between the two countries.

Question 10

​Which of the following theories suggests that the percentage difference between the forward rate and the spot rate depends on the interest rate differential between two countries?

Accepted Answer

Interest rate parity (IRP) suggests that the percentage difference between the forward rate and the spot rate depends on the interest rate differential between two countries.

Question 11

Which of the following is not true regarding IRP, PPP, and the IFE?

Accepted Answer

IRP (Interest Rate Parity) does not suggest that a currency's spot rate will change according to interest rate differentials; rather, it suggests that the forward exchange rate should reflect interest rate differentials to prevent arbitrage opportunities.

Question 12

Given a home country and a foreign country, the international Fisher effect (IFE) suggests that:

Accepted Answer

The International Fisher Effect (IFE) theory suggests that the currency of the country with the higher nominal interest rate will depreciate against the currency of the country with the lower nominal interest rate, due to expected inflation differences. It does not imply that nominal interest rates, inflation rates, or exchange rate movements against other currencies will be the same between two countries.

Question 13

If interest rate parity holds, then the one-year forward rate of a currency will be ____ the predicted spot rate of the currency in one year according to the international Fisher effect.

Accepted Answer

Interest rate parity (IRP) states that the difference in interest rates between two countries should be reflected in the forward rate. According to the international Fisher effect, the expected change in the exchange rate between two currencies is the difference in their nominal interest rates. Therefore, if IRP holds, the one-year forward rate should be equal to the predicted spot rate of the currency in one year based on the international Fisher effect. Hence, the correct answer is C, equal to.

Question 14

​Which of the following is indicated by research regarding purchasing power parity (PPP)?

Accepted Answer

Research has shown that PPP tends to hold better in the long run, as deviations from PPP are less pronounced over longer periods of time. However, in the short run, factors such as transaction costs, barriers to trade, and differences in inflation rates can cause significant deviations from PPP. Therefore, option B is the most accurate statement. The other answer choices are incorrect because PPP does not clearly hold in either the short or long run, and there is a relationship between inflation differentials and exchange rate movements.

Question 15

​The Fisher effect is used to determine the:

Accepted Answer

The Fisher effect states that nominal interest rates will adjust one-for-one with changes in expected inflation rates. Therefore, by subtracting the expected inflation rate from the nominal interest rate, we can determine the real interest rate.

Question 16

​Assume that the U.S. and Chile nominal interest rates are equal. Then, the U.S. nominal interest rate decreases while the Chilean nominal interest rate remains stable. According to the international Fisher effect, this implies expectations of ____ than before, and that the Chilean peso should ____ against the dollar.

Accepted Answer

The international Fisher effect states that the difference in nominal interest rates between two countries is equal to the expected difference in inflation rates. If the U.S. nominal interest rate decreases while the Chilean nominal interest rate remains stable, then the expected difference in inflation rates must decrease. This implies that the U.S. inflation rate is expected to decrease relative to the Chilean inflation rate. According to the law of one price, this implies that the Chilean peso should depreciate against the dollar.

Question 17

Assume that U.S. and British investors require a real return of 2 percent. If the nominal U.S. interest rate is 15 percent, and the nominal British rate is 13 percent, then according to the IFE, the British inflation rate is expected to be about ____ the U.S. inflation rate, and the British pound is expected to ____.

Accepted Answer

The answer of Assume that U.S. and British investors require...

Question 18

​Assume that the U.S. inflation rate is higher than the New Zealand inflation rate. This will cause U.S. consumers to ____ their imports from New Zealand and New Zealand consumers to ____ their imports from the United States. According to purchasing power parity (PPP), this will result in a(n) ____ of the New Zealand dollar (NZ$).

Accepted Answer

Higher U.S. inflation makes U.S. goods more expensive relative to New Zealand goods, leading U.S. consumers to increase imports from New Zealand. Conversely, New Zealand consumers will reduce imports from the U.S. due to relatively higher prices. According to PPP, this will lead to an appreciation of the New Zealand dollar.

Question 19

​According to the IFE, if British interest rates exceed U.S. interest rates:

Accepted Answer

According to the IFE, if British interest rates exceed U.S. interest rates, the British pound's value will decrease against the dollar, i.e. it will depreciate. This is because investors will seek higher returns in the UK, causing an increase in demand for the pound which will lead to its appreciation. However, the resulting increase in the supply of pounds in the foreign exchange market that will occur when investors convert their profits back into U.S. dollars will cause the pound's depreciation.

Question 20

​Latin American countries have historically experienced relatively high inflation, and their currencies have weakened. This information is somewhat consistent with the concept of:

Accepted Answer

The concept of purchasing power parity suggests that exchange rates should adjust to equalize the price of goods and services between countries. Inflation can affect exchange rates through its impact on purchasing power. If a country experiences high inflation, its currency may weaken as the prices of goods and services increase relative to other countries. This has been historically true for many Latin American countries, suggesting that purchasing power parity may play a role in exchange rate movements in the region.

Quiz 8: Relationships Among Inflation, Interest Rates, and Exchange Rates

Which of the following is not true regarding limitations of PPP and the IFE?

Which of the following theories can be assessed using data that exists at one specific point in time?

Among the reasons that purchasing power parity (PPP) does not consistently occur are:

The international Fisher effect (IFE) suggests that the foreign currency will appreciate when:

If interest rates on the euro are consistently below U.S. interest rates, then for the international Fisher effect (IFE) to hold:

According to the international Fisher effect (IFE) :

Assume U.S. and Swiss investors require a real rate of return of 3 percent. Assume the nominal U.S. interest rate is 6 percent and the nominal Swiss rate is 4 percent. According to the international Fisher effect, the Swiss franc will by about .

Assume a two-country world: Country A and Country B. Which of the following is correct about purchasing power parity (PPP) as related to these two countries?

Which of the following theories suggests that the percentage difference between the forward rate and the spot rate depends on the interest rate differential between two countries?

Which of the following is not true regarding IRP, PPP, and the IFE?

Given a home country and a foreign country, the international Fisher effect (IFE) suggests that:

If interest rate parity holds, then the one-year forward rate of a currency will be ____ the predicted spot rate of the currency in one year according to the international Fisher effect.

Which of the following is indicated by research regarding purchasing power parity (PPP) ?

The Fisher effect is used to determine the:

According to the IFE, if British interest rates exceed U.S. interest rates:

Latin American countries have historically experienced relatively high inflation, and their currencies have weakened. This information is somewhat consistent with the concept of:

Quiz 8: Relationships Among Inflation, Interest Rates, and Exchange Rates

Which of the following is not true regarding limitations of PPP and the IFE?

Which of the following theories can be assessed using data that exists at one specific point in time?

Among the reasons that purchasing power parity (PPP) does not consistently occur are:

​The international Fisher effect (IFE) suggests that the foreign currency will appreciate when:

If interest rates on the euro are consistently below U.S. interest rates, then for the international Fisher effect (IFE) to hold:​

​According to the international Fisher effect (IFE) :

Assume U.S. and Swiss investors require a real rate of return of 3 percent. Assume the nominal U.S. interest rate is 6 percent and the nominal Swiss rate is 4 percent. According to the international Fisher effect, the Swiss franc will ____ by about ____.

​Assume a two-country world: Country A and Country B. Which of the following is correct about purchasing power parity (PPP) as related to these two countries?

​Which of the following theories suggests that the percentage difference between the forward rate and the spot rate depends on the interest rate differential between two countries?

Which of the following is not true regarding IRP, PPP, and the IFE?

Given a home country and a foreign country, the international Fisher effect (IFE) suggests that:

If interest rate parity holds, then the one-year forward rate of a currency will be ____ the predicted spot rate of the currency in one year according to the international Fisher effect.

​Which of the following is indicated by research regarding purchasing power parity (PPP) ?

​The Fisher effect is used to determine the:

​According to the IFE, if British interest rates exceed U.S. interest rates:

​Latin American countries have historically experienced relatively high inflation, and their currencies have weakened. This information is somewhat consistent with the concept of:

The international Fisher effect (IFE) suggests that the foreign currency will appreciate when:

If interest rates on the euro are consistently below U.S. interest rates, then for the international Fisher effect (IFE) to hold:

According to the international Fisher effect (IFE) :

Assume U.S. and Swiss investors require a real rate of return of 3 percent. Assume the nominal U.S. interest rate is 6 percent and the nominal Swiss rate is 4 percent. According to the international Fisher effect, the Swiss franc will by about .

Assume a two-country world: Country A and Country B. Which of the following is correct about purchasing power parity (PPP) as related to these two countries?

Which of the following theories suggests that the percentage difference between the forward rate and the spot rate depends on the interest rate differential between two countries?

Which of the following is indicated by research regarding purchasing power parity (PPP) ?

The Fisher effect is used to determine the:

According to the IFE, if British interest rates exceed U.S. interest rates:

Latin American countries have historically experienced relatively high inflation, and their currencies have weakened. This information is somewhat consistent with the concept of: