Question 1

The ________ approach states that the exchange rate is determined by the supply and demand for national currency stocks, as well as the expected future levels and rates of growth of monetary stock.

Accepted Answer

The monetary approach to exchange rate determination emphasizes the role of the supply and demand for money and the expected future levels and growth rates of the monetary stock in determining exchange rates.

Question 2

The authors claim that random events, institutional frictions, and technical factors may cause currency values to deviate significantly from their long-term fundamental path.

Accepted Answer

The sentence clearly states that events such as random events, institutional frictions, and technical factors can cause currency values to deviate significantly from their long-term fundamental path. Therefore, the statement is true.

Question 3

The balance of payments approach of exchange rate theory is largely dismissed by the academic community today, while the practitioner public still rely on different variations of the theory for their decision making.

Accepted Answer

The statement correctly describes the current view among academics and practitioners about the balance of payments approach of exchange rate theory.

Question 4

Describe the asset market approach to exchange rate determination. How is this consistent with economic theory of (say, security) prices in general?

Accepted Answer

The answer of Describe the asset market approach to exchange...

Question 5

________ is the active buying and selling of the domestic currency against foreign currencies.

Accepted Answer

Direct Intervention involves the active buying and selling of the domestic currency against foreign currencies by the central bank or government in order to influence the exchange rate. Indirect Intervention involves policies or actions that affect the exchange rate indirectly, such as interest rate changes or trade policies. Foreign Direct Investment involves investing in and managing operations in a foreign country, and Federal Funding refers to funding allocated by the government for specific programs or projects.

Question 6

________ is defined as the spread of a crisis in one country to its neighboring countries and other countries with similar characteristics.

Accepted Answer

Contagion refers to the spread of a crisis from one country to its neighboring countries and other countries with similar characteristics. This term is commonly used in the context of financial crises, where a crisis in one country can quickly spread to other countries, causing a domino effect across the global economy.

Question 7

The asset market approach to forecasting is not applicable to emerging markets.

Accepted Answer

The asset market approach to forecasting is applicable to emerging markets, but it may require some adjustments or additional factors to consider due to the unique characteristics of these markets. The asset market approach focuses on analyzing market developments, such as stock prices, exchange rates and bond yields, to obtain insights on the future performance of the economy. This approach can be used in emerging markets, but it may require additional considerations such as political risks, capital controls or institutional limitations.

Question 8

The asset market approach to forecasting assumes that whether foreigners are willing to hold claims in monetary form depends on an extensive set of investment considerations. These include all but which of the following choices?

Accepted Answer

All of the above choices - relative real interest rates, capital market liquidity, and political safety - are considered by investors in their decision process.

Question 9

The ________ approach argues that equilibrium exchange rates are achieved when the net inflow of foreign exchange arising from current account activities is equal to the net outflow of foreign exchange arising from financial account activities.

Accepted Answer

The balance of payments approach argues that equilibrium exchange rates are achieved when the net inflow of foreign exchange arising from current account activities (such as imports and exports) is equal to the net outflow of foreign exchange arising from financial account activities (such as capital flows and investment). This approach takes into account both the demand for foreign currency from international trade and the supply of foreign currency from international capital movements.

Question 10

Most theories of technical analysis differentiate fair value from market value.

Accepted Answer

Yes, most theories of technical analysis differentiate fair value (the estimated intrinsic value of an asset based on its fundamental factors) from market value (the actual price of that asset in the market). Technical analysts use various chart patterns and indicators to identify underpriced or overpriced assets and to predict future price movements based on the interaction between supply and demand.

Question 11

Critics of the balance of payments approach to exchange rate determination point to the emphasis on ________ of currency and capital rather than ________ of money or financial assets.

Accepted Answer

The balance of payments approach focuses on the flows of currency and capital between countries, which can have an impact on the exchange rate. Critics argue that this approach ignores stocks of money or financial assets, which can also influence exchange rates. Therefore, choice A (flows; stocks) is the best answer.

Question 12

The ________ approach argues that exchange rates are determined by the supply and demand for a wide variety of financial assets

Accepted Answer

The asset market approach suggests that exchange rates are determined by the supply and demand for a wide range of financial assets such as bonds, stocks, and other securities. This approach emphasizes the role of speculation and investor expectations in influencing exchange rates, as supply and demand for assets are influenced by various economic and political factors beyond traditional trade flows. The balance of payments approach focuses on trade flows and capital flows, while the monetary approach emphasizes the relationship between interest rates and exchange rates. The law of one price refers to the idea that identical goods should have the same price in different markets once the exchange rate is taken into account.

Question 13

It is safe to say that most determinants of the spot exchange rate are also affected by changes in the spot rate, i.e., they are linked AND mutually determined.

Accepted Answer

Most determinants of the spot exchange rate, such as interest rates, inflation rates, and political and economic factors, are influenced by changes in the spot exchange rate. At the same time, changes in these determinants can also cause fluctuations in the spot exchange rate, indicating a mutual relationship.

Question 14

Technical analysis of exchange rates developed in part due to the forecasting inadequacies of fundamental exchange rate theories.

Accepted Answer

Technical analysis was developed as an alternative to fundamental analysis, as fundamental theories had limited success in forecasting exchange rates. Technical analysts focus on chart patterns and historical price movements to identify trends and potential future movements.

Question 15

The ________ provides a means to account for international cash flows in a standardized and systematic manner.

Accepted Answer

The balance of payments provides a standardized and systematic approach to accounting for international cash flows. It is used by governments, businesses, and economists to monitor and analyze the flow of funds between countries. Parity conditions, asset approach, and the International Fisher Effect are related to foreign exchange markets and currency valuation, but do not directly address international cash flows.

Question 16

Which of the following did NOT contribute to the exchange rate collapse in emerging markets in the 1990s?

Accepted Answer

The answer of Which of the following did NOT contribute...

Question 17

The ________ approach to the determination of spot exchange rates hypothesizes that the most important factors are the relative real interest rate and a country's outlook for economic growth and profitability.

Accepted Answer

The asset market approach is based on the analysis of the demand and supply of financial assets denominated in different currencies. The approach hypothesizes that the most important factors for determining spot exchange rates are the relative real interest rate and a country's outlook for economic growth and profitability. The balance of payments approach focuses on the overall supply and demand for a country's currency, while the parity conditions approach examines the relationships between spot and forward exchange rates, inflation rates, and interest rates. The managed float approach refers to a system where the central bank intervenes in the foreign exchange market to influence the exchange rate.

Question 18

The authors claim that theoretical and empirical studies appear to show that fundamentals do apply to the long-term for foreign exchange.

Accepted Answer

The authors claim that theoretical and empirical studies support the idea that fundamentals apply to the long-term for foreign exchange.

Question 19

Which of the following versions of PPP is thought to be the most relevant to possibly explaining what drives exchange rate values?

Accepted Answer

Relative Purchasing Power Parity (PPP) is considered the most relevant to explaining what drives exchange rate values because it accounts for inflation differentials between countries, which can affect exchange rates over time. Absolute PPP, while foundational, is less practical due to its assumption of identical goods and services across countries. The Law of One Price and the International Fisher Effect focus on other aspects of financial theory that are less directly related to exchange rate movements.

Question 20

An important thing to remember about foreign exchange rate determination is that parity conditions, asset approach, and balance of payments approaches are ________ theories rather than ________ theories.

Accepted Answer

Parity conditions, asset approach, and balance of payments approaches are complementary theories. They provide different insights into how exchange rates are determined, and can be used together to gain a more comprehensive understanding of exchange rate fluctuations.

Quiz 9: Foreign Exchange Rate Determination and Intervention