Briefly describe an exchange-rate shock.

Question

Quizplus · Accepted Answer

The Answer is An exchange rate shock occurs when there is a large depreciation of the exchange rate in a relatively short period of time. This usually occurs when there is a leftward shift of the supply of foreign exchange. Such a shift causes a depreciation of the exchange rate. If imports are a high percentage of GDP then the depreciation of the currency can cause a large increase in the cost of production in the economy. If the shock is large enough, it may cause a change in the aggregate supply curve. Specifically, an exchange rate shock could cause a leftward shift of the AS curve. Such a shift could cause a higher price level (P) and a lower level of real GDP (Y).

Briefly Describe an Exchange-Rate Shock