Question 1

Empirical evidence regarding the effects of currency devaluation on the balance of trade indicates that

Accepted Answer

Empirical evidence suggests that partial exchange-rate pass-through generally occurs, meaning that not all of the change in exchange rates is passed on to the prices of imports and exports. Additionally, the effects of currency devaluation on the trade balance can vary depending on various factors, such as the elasticity of demand for imports and exports and the competitiveness of domestic industries. Therefore, neither C nor D can be considered accurate generalizations.

Question 2

The pass-through effect refers to extent that import prices and export prices adjust to currency devaluation.

Accepted Answer

The pass-through effect is the extent to which changes in exchange rates affect the prices of imported and exported goods. Specifically, it refers to how much of a currency devaluation or appreciation is passed through to import and export prices. A higher pass-through means that import and export prices are more sensitive to changes in exchange rates, while a lower pass-through means that prices are less sensitive.

Question 3

According to the J-curve effect,following a currency devaluation,the balance of trade improves before it worsens.

Accepted Answer

According to the J-curve effect, following a currency devaluation, the balance of trade initially worsens before it improves in the long run.

Question 4

Assume that a country is operating at full employment.According to the absorption approach,the only way that currency depreciation can improve the balance of trade is for the country to implement

Accepted Answer

According to the absorption approach, currency depreciation can improve the balance of trade by decreasing the country's domestic spending on imports and increasing demand for its exports. However, if the country is already at full employment, increasing domestic demand through expansionary fiscal or monetary policy would simply result in higher prices and imports rather than an increase in domestic production and exports. Therefore, the only way to achieve a sustained improvement in the balance of trade would be to reduce domestic spending through contractionary fiscal or monetary policy.

Question 5

Assume that a country realizes unemployment and excess production capacity.According to the absorption approach,currency devaluation tends to decrease domestic output and worsen the balance of trade.

Accepted Answer

According to the absorption approach, currency devaluation tends to increase output and improve the balance of trade. This is because a devaluation makes exports cheaper and imports more expensive, leading to an increase in exports and a decrease in imports. This in turn increases domestic output and reduces unemployment.

Question 6

The shorter the pass-through period,the sooner the impact of devaluation on export prices and import prices.

Accepted Answer

A shorter pass-through period means that the changes in exchange rates are quickly reflected in the prices of exports and imports. Therefore, the impact of devaluation on export prices and import prices will be seen sooner.

Question 7

According to the absorption approach,currency devaluation (depreciation) best leads to an improvement in the balance of trade when a country

Accepted Answer

The absorption approach suggests that a currency devaluation (depreciation) will lead to an improvement in the balance of trade if there is excess production capacity in the economy. This is because the devaluation will make exports cheaper and more competitive, leading to an increase in demand for domestic goods and services, which in turn will increase production and employment. If the economy is already operating at full employment, there is no excess production capacity, and any increase in demand for domestic goods and services may lead to inflationary pressures, which could potentially offset the benefits of the devaluation. Therefore, the best choice is B, as devaluation can stimulate production and employment in an economy with excess production capacity.

Question 8

Suppose a country devalues its currency.If the country's demand for imports is ______,the price increase resulting from the devaluation results in a relatively small decrease in the volume of imports,causing to total import expenditures to increase.

Accepted Answer

If the country's demand for imports is relatively inelastic, the increase in price resulting from the devaluation will not significantly decrease the amount of imports demanded. Thus, total import expenditures will increase despite the price increase.

Question 9

Suppose a country devalues its currency.If the country's demand for imports is ______,the price increase resulting from the devaluation results in a relatively large decrease in the volume of imports,causing to total import expenditures to decrease.

Accepted Answer

If the demand for imports is relatively elastic, it means that consumers are sensitive to changes in prices, and the increase in prices resulting from the devaluation will cause a relatively large decrease in the volume of imports. As a result, the total import expenditure will decrease even though the price has increased due to the devaluation.

Question 10

The desire of foreign producers to preserve market share for goods sold in the United States helps contribute to complete exchange-rate pass-through following a depreciation of the dollar.

Accepted Answer

The statement is incorrect. Exchange-rate pass-through is not always complete, and the degree of pass-through varies depending on factors such as market competition and the elasticity of demand for the particular goods.

Question 11

According to the Marshall-Lerner condition,a currency devaluation will be successful in improving a country's balance of trade (exports minus imports) if the

Accepted Answer

The Marshall-Lerner condition states that a currency devaluation will improve a country's balance of trade if the sum of the elasticities of demand (for exports and imports) is greater than 1. This means that the demand for a country's exports and imports must be relatively elastic, meaning that changes in price will lead to a significant change in the quantity demanded. A sum less than 1 suggests that demand is relatively inelastic and will not significantly change with a change in price. Therefore, the best choice is C – sum of the elasticities of demand is more than 1.

Question 12

To the extent that labor unions attain higher wages during periods of currency depreciation,the resulting wage inflation reduces the improving competitiveness of a country's business firms caused by depreciation

Accepted Answer

Labor unions negotiating higher wages during currency depreciation can result in wage inflation, which can reduce the competitive advantage gained by a country's business firms due to the depreciation of their currency.

Question 13

According to the absorption approach,currency devaluation best improves a country's balance of trade if the country operates at full employment with no excess production capacity.

Accepted Answer

The absorption approach suggests that currency devaluation improves the balance of trade when there is excess production capacity, allowing for increased output without causing inflation.

Question 14

The dominant use of dollars in invoicing U.S.trade helps explain the partial pass-through of changes in the dollar's exchange rate to U.S.import prices.

Accepted Answer

When imports are invoiced in dollars, changes in the exchange rate affect the cost of goods in foreign currency terms. As a result, some of the changes in the exchange rate are passed on to import prices by foreign sellers who invoice in dollars, leading to partial pass-through of exchange rate changes to U.S.import prices.

Question 15

The ______ refers to the extent to which changing currency values result in changes in import and export prices.

Accepted Answer

The pass-through effect refers to the extent to which changing currency values result in changes in import and export prices. The other options are not directly related to this concept. The time path of devaluation refers to the pattern of currency depreciation over time, while the Marshall-Lerner effect and J-curve effect are related to the impact of changes in exchange rates on a country's trade balance.

Question 16

Concerning currency devaluation (depreciation),the elasticities approach and the absorption approach are theories that deal with

Accepted Answer

Both the elasticities approach and the absorption approach are theories that deal with the impact of currency devaluation on exports and imports of goods and services. The elasticities approach emphasizes the price elasticity of demand for exports and imports, while the absorption approach looks at the relationship between domestic absorption and output. Therefore, the correct answer is A.

Question 17

Assume that a country operates at full employment.According to the absorption approach,the only way that currency depreciation can improve the country's trade balance is for the country to reduce domestic spending (absorption),thus freeing resources needed to produce additional export goods and import substitutes.

Accepted Answer

The absorption approach states that when a country operates at full employment, currency depreciation can only improve the trade balance if the country reduces domestic spending (absorption) to free up resources for the production of additional export goods and import substitutes. This is because, at full employment, there are no spare resources to increase production without reducing production of other goods and services. Therefore, by reducing domestic spending, the country can redirect resources towards the production of goods that can be sold abroad, thus increasing exports and improving the trade balance.

Question 18

According to the ______,following a currency devaluation,the balance of trade worsens for a while before improving.

Accepted Answer

The J-curve effect predicts that following a currency devaluation, there will be a temporary worsening of the balance of trade before it eventually improves. This is because in the short run, the higher prices for imports due to the weaker currency outweigh the increased competitiveness of exports. However, over time as firms adjust and begin to export more, the balance of trade will improve.

Question 19

The ______ is a theory of the balance of payments that shows how home-country spending on home-country goods changes relative to home-country output

Accepted Answer

The absorption approach to currency depreciation is a theory of the balance of payments that shows how home-country spending on home-country goods changes relative to home-country output. It examines the relationship between national income, domestic absorption (consumption and investment), imports, and exports to determine the impact of a currency depreciation on a country's balance of trade.

Question 20

Assume that a country operates at less than full employment and has excess productive capacity.According to the absorption approach,the currency devaluation (depreciation) tends to

Accepted Answer

During a situation of less than full employment and excess productive capacity, a currency devaluation tends to lead to an expansion of domestic output as exports become cheaper and more competitive in the international market. This increase in output also improves the balance of trade as exports increase and imports become relatively more expensive. Therefore, choice A is the correct option.

Quiz 14: Exchange Rate Adjustments and the Balance-of-payments