57) Sam’s mentor is excited about the wheat prices in France and the U.S. because he sees an
opportunity to buy wheat in the U.S. and sell it in France, which is known as a(n) ________.
A) exchange rate profit
B) arbitrage opportunity
C) violation of purchasing power parity
D) violation of the law of one price
58) The law of one price stipulates that an identical product must have an identical price in all
countries when the price is expressed in a common currency.
59) It is the nature of arbitrage to even out excessive fluctuation by destroying its own
profitability.
60) Purchasing power parity does not hold for single products, it is meaningful only when
applied to a basket of goods.
61) According to Fisher effect, real interest rate is the sum of the nominal interest rate and the
expected rate of inflation over a specific period.
62) Investor confidence in the value of a currency plays an has no role in determining its
exchange rate.
63) A market is efficient if the prices of financial instruments quickly reflect new public
information made available to traders.
64) According to the efficient market view for forecasting exchange rates, spot exchange rates
are perfect predictors of future exchange rates.
65) Fundamental analyses used for forecasting exchange rates estimate the timing, magnitude,
and direction of future exchange rate changes.
66) Technical analysis employs charts of past trends in currency prices and other factors to
forecast exchange rates.
67) The value of a currency expressed in relation to the currency of another country is called the
exchange rate.
68) The IMF asset whose value is based on a “weighted basket” of four currencies is called a
special drawing right.
69) Why do managers prefer that movements in exchange rates be predictable? How does the
Big Mac index help determine whether a currency is overvalued or undervalued, and what are its
drawbacks?
70) Differentiate between efficient and inefficient market views and discuss the implications of
the two schools of thought for companies.
71) Discuss the challenges involved in forecasting exchange rates.
72) Explain the impact of added costs, trade barriers, and investor psychology on the ability of
purchasing power parity (PPP) to predict exchange rates accurately.
73) Compare and contrast the two main techniques for forecasting exchange rates.
74) The ________ is the collection of agreements and institutions that govern exchange rates.
A) Bretton Woods Agreement
B) Plaza Accord
C) international monetary system
D) international bond market
75) In the earliest days of international trade, ________ was the internationally accepted
currency for payment of goods and services.
A) British pound
B) U.S. dollar
C) silver
D) gold
76) The gold standard is a ________ because it secured nations’ currencies to the value of gold.
A) floating exchange-rate system
B) fixed exchange-rate system
C) linked exchange-rate system
D) free float system
77) ________ was the first nation to implement the gold standard in the early 1700s.
A) The United States
B) Britain
C) France
D) Japan
78) The value of a currency expressed in terms of gold is called its ________.
A) book value
B) net asset value
C) par value
D) carrying value
79) Under the gold standard, if the U.S. dollar was fixed at $30/oz of gold and Japan was fixed at
¥75/oz of gold, what would be the Yen/dollar exchange rate?
A) ¥2.50/$
B) $2.50/¥
C) ¥0.40/$
D) ¥2250/$
80) The purchasing power parity theory claims that a change in relative ________ between two
countries must cause a change in ________ in order to keep the prices of goods in two countries
fairly similar.
A) exchange rates; inflation
B) inflation; exchange rates
C) interest rates; inflation
D) interest rates; exchange rates
81) The ________ refers to an international monetary system in which countries agreed to buy or
sell their paper currencies in exchange for gold on the request of any individual or firm and to
allow the free export of gold.
A) foreign exchange system
B) free market system
C) gold standard
D) mercantilism
82) Under the gold standard, ________.
A) currency values were determined by supply and demand
B) countries agreed to buy or sell their paper currencies for gold
C) countries were free to adopt any nation’s exchange-rate system
D) the dollar’s value was allowed to fall on currency markets
83) Which of the following created a new international monetary system based on the value of
the U.S. dollar?
A) Plaza Accord
B) Bretton Woods Agreement
C) Louvre Accord
D) Jamaica Agreement
84) Which of the following features did Bretton Woods Agreement incorporate in the
international monetary system based on the U.S. dollar?
A) floating exchange rates
B) trade imbalance corrections
C) an enforcement mechanism
D) a strict ban on devaluation
85) An economic condition in which a trade deficit causes a permanent negative shift in a
country’s balance of payments is called ________.
A) revaluation
B) statistical discrepancy
C) the Fisher effect
D) fundamental disequilibrium
86) The World Bank was created by the ________.
A) Jamaica Agreement
B) Bretton Woods Agreement
C) Smithsonian Agreement
D) Plaza Accord
87) The Bretton Woods conference sought to do which of the following?
A) end the gold standard
B) create the International Monetary Fund
C) terminate the International Bank for Reconstruction and Development
D) provide no-interest capital loans to emerging economies around the world
88) The ________ is an IMF asset whose value is based on a weighted basket of four currencies,
including the U.S. dollar, European Union euro, Japanese yen, and British pound.
A) special drawing right
B) gold standard
C) Eurobond
D) currency board
89) The international monetary system created by the Bretton Woods Agreement collapsed
because ________.
A) of its heavy dependence on the stability of the dollar
B) it was not accepted by a majority of the world’s nations
C) it did not have the funds necessary for its functioning
D) it favored only the developed countries and was of no help to struggling nations
90) The gold standard effectively created a floating exchange-rate system.
91) The Bretton Woods Agreement was an accord among nations to create a new international
monetary system based on the value of the U.S. dollar.
92) To provide funding for countries’ efforts toward economic development, the Bretton Woods
Agreement created the International Bank for Reconstruction and Development.
93) The European monetary system is still in practice today.
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94) Briefly describe the gold standard, its advantages, and why it collapsed.
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Third, the gold standard can help correct a nation’s trade imbalance. The exact opposite occurs in
the case of a trade surplus: The inflow of gold supports an increase in the supply of paper
currency, which increases demand for, and therefore the cost of, goods and services. Thus
exports will fall in reaction to their higher price until trade is once again in balance.
Collapse of the Gold Standard-Nations involved in the First World War needed to finance their
enormous war expenses, and they did so by printing more paper currency. This certainly violated
the fundamental principle of the gold standard and forced nations to abandon the standard. The
aggressive printing of paper currency caused rapid inflation for these nations. When the United
States returned to the gold standard in 1934, it adjusted its par value from $20.67/oz of gold to
$35.00/oz to reflect the lower value of the dollar that resulted from inflation. Thus the U.S. dollar
had undergone devaluation. Yet Britain returned to the gold standard several years earlier at its
previous level, which did not reflect the effect inflation had on its currency.
Because the gold standard links currencies to one another, devaluation of one currency in terms
of gold affects the exchange rates between currencies. The decision of the United States to
devalue its currency and Britain’s decision not to do so lowered the price of U.S. exports on
world markets and increased the price of British goods imported into the United States. People
quickly lost faith in the gold standard because it was no longer an accurate indicator of a
currency’s true value. By 1939, the gold standard was effectively dead.
AACSB: Reflective thinking
Skill: Concept
Difficulty: Moderate
LO: 10.3: Explain attempts to construct a system of fixed exchange rates.
95) Describe the most important features of the international monetary system created by the
Bretton Woods Agreement.
96) Explain the differences between a monetary policy and a fiscal policy, and discuss why the
IMF was established.
97) Under the Jamaica Agreement ________.
A) currency values were determined by supply and demand
B) countries agreed to buy or sell their paper currencies for gold
C) countries were free to adopt any exchange-rate system
D) the dollar’s value was allowed to fall on currency markets
98) A system in which currencies float against one another, with governments intervening to
stabilize their currencies at particular target exchange rates is called a ________.
A) managed float system
B) linked exchange-rate system
C) free float system
D) fixed exchange-rate system
99) Today’s international monetary system is considered to be a ________ system.
A) fixed exchange
B) free float
C) managed float
D) linked exchange rate
100) The ________ was a 1985 agreement among the G5 nations to act together in forcing down
the value of the U.S. dollar.
A) Bretton Woods Agreement
B) Smithsonian Agreement
C) Plaza Accord
D) Louvre Accord
101) What occurred at the Louvre Accord?
A) Central banks allowed the dollar’s value to fall.
B) The value of the U.S. dollar was stabilized.
C) EU members adopted a common currency.
D) An exchange rate mechanism was established.
102) A ________ is a monetary regime that is based on an explicit commitment to exchange
domestic currency for a specified foreign currency at a fixed exchange rate.
A) currency option
B) currency board
C) currency speculation
D) currency arbitrage
103) The ________ limited the fluctuations of European Union members’ currencies within a
specified trading range.
A) exchange rate mechanism
B) special drawing right
C) currency board
D) free float system
104) The ________ called for large-scale reduction of the debt owed by poorer nations, the
exchange of old loans for new low-interest loans, and the making of debt instruments that would
be tradable on world financial markets.
A) Brady Plan
B) Louvre Accord
C) Bretton Woods Agreement
D) Smithsonian Agreement
105) Today’s international monetary system remains in large part a managed float system.
106) A government with a currency board is legally bound to hold an amount of foreign currency
that is at least equal to the amount of domestic currency.
107) Explain how a pegged exchange-rate system works. Why would a country choose to follow
this system?