Chapter 10
Foreign Exchange
Multiple-Choice Questions
1. From October 1997 to January 1998, the economy of South Korea was in turmoil. One of the
problems was:
a. the currency of South Korea appreciated considerably making it very difficult for Korean
exporters to sell goods abroad.
b. the value of the U.S. $ compared to the Korean won fell by more than half.
c. U.S. goods became very cheap to Koreans making it difficult for Korean manufacturers to
compete with imports.
d. the value of the won fell by more than half compared to the U.S. dollar, making U.S. goods
very expensive to Koreans and Korean goods relatively inexpensive for U.S. residents.
2. An American traveling to Europe will find it easier to make purchases now because:
a. most countries in Europe accept U.S. dollars.
b. most of the countries of Europe have adopted the British pounds as the standard currency.
c. many of the countries in Europe now use the same currency, the euro.
d. all of the countries in Europe now use the same currency, the euro.
3. The nominal exchange rate:
a. is the amount of one country’s goods that could be obtained with a basket of goods of
another country.
b. is always expressed as units of a foreign currency per U.S. dollar.
c. is the rate that one can exchange the currency of one country for the currency of another
country.
d. is a synonymous term for the swap rate.
4. If an American traveling abroad can obtain 115 euros for $100 U.S. the current euro per $
exchange rate is:
a. 0.870 euros/$.
b. 1.15 euros/$.
c. 115euros/$.
d. 1euro/1.15$.
5. If in late 2016 100 U.S. dollars exchanged for 118 euros and in mid-2017 100 U.S. dollars
exchanged for 127 euros, then:
a. the euro appreciated relative to the dollar.
b. the dollar appreciated relative to the euro.
c. European goods became more expensive to Americans.
d. American goods became more expensive to Americans.
6. If the Japanese yen appreciates against the U.S. dollar:
a. Americans should find Japanese goods are now less expensive.
b. Japanese residents would find Japanese goods are relatively less expensive than American
goods.
c. U.S. goods should have an easier time competing against Japanese goods in both countries.
d. Japanese goods should have an easier time competing against U.S. goods in both countries.
7. The nominal exchange rate:
a. is the price of a good in one country expressed in units of the same good in another country.
b. is fixed by the central banks of countries.
c. is the price of one country’s currency stated in units of another country’s currency.
d. is adjusted once a year and is the price at which goods are traded.
8. Which of the following statements is most correct?
a. If the U.S. $ depreciates relative to the yen, then it is likely also depreciating relative to the
euro.
b. If the U.S. $ is appreciating relative to the euro, the euro is likely depreciating relative to the
yen.
c. If the U.S. $ is depreciating relative to the euro it is likely depreciating relative to all
currencies.
d. If the U.S. $ is appreciating relative to the yen, the yen is depreciating relative to the U.S. $.
9. In quoting exchange rates:
a. one should always quote these as units of foreign currency over a unit of domestic currency.
b. one should always quote the rate as the units of domestic currency over a unit of foreign
currency.
c. usually one should quote the rate in such a way that the value is greater than one.
d. each country‘s central bank determines how the rate is to be quoted.
10. The forward exchange rate:
a. is the rate at which foreign exchange dealers are willing to commit today to buying or selling a
currency in the future.
b. is a synonymous term for the nominal exchange rate.
c. is the same as the spot rate.
d. is always above the spot rate since it carries greater risk.
11. The answer to the question of whether or not a U.S. dollar will buy more in the U.S. or in a
foreign country is determined by:
a. the nominal exchange rate.
b. the real exchange rate.
c. whether the nominal exchange rate is > or < than 1.
d. you cannot determine the answer until you travel to the foreign country and convert U.S.
dollars to the foreign currency.
12. The real exchange rate is defined as:
a. the nominal exchange rate plus the rate of inflation.
b. the spot exchange rate.
c. the cost of a basket of goods and services in one country compared to the cost of the same
basket in another country.
d. the exchange rate that would exist if nominal rates were not fixed by governments.
13. If a Japanese Toyota sells for 2,500,000 yen and the nominal exchange rate is 110 yen/
$ U.S., then the dollar price of the Japanese automobile is:
a. 22,727 yen.
b. $20,000.
c. $25,000.
d. $22,727.
14. A bagel cost $1 in New York and 0.5 euros in Paris. If the real exchange rate is one-half of a
New York bagel for a Parisian bagel, how many euros should you receive in exchange for one
dollar?
a. 0.1
b. 2
c.0.25
d. 1.5
15. Appreciation of the real exchange rate:
a. makes U.S. exports more expensive to foreigners.
b. makes U.S. exports less expensive to foreigners.
c. means a basket of U.S. goods would exchange for fewer foreign goods.
d. benefits all U.S. producers.
16. The real and nominal exchange rates differ in the sense that:
a. the real exchange rate does not express differences in the purchasing power of a currency.
b. the nominal exchange rate is adjusted for price differences between countries and the real is
not.
c. the nominal exchange rate does not reflect differences in purchasing power between
currencies.
d. nominal exchange rates are fixed but real rates are flexible.
17. If we let P = the domestic price of a basket of goods and Pf the foreign price of the same
basket of goods, and Ɛ = the nominal exchange rate of U.S. $/foreign currency the real exchange
rate is best expressed as:
a. P / Pf × Ɛ
b. Pf / P
c. Pf / P × Ɛ
d. Ɛ × P / Pf
18. If we let P = the domestic price of a basket of goods and Pf the foreign price of the same
basket of goods measured in domestic currency:
a. If P/Pf > 1 foreign products will seem inexpensive.
b. If
P/Pf >1 foreign products will seem expensive.
c. If P/Pf= 1 the nominal exchange rate is also = 1.
d. You
cannot
determine
the
relative
price
s of
forei
gn goods
from
the
equati
on P/Pf .
19. Depreciation of the real exchange rate:
a. makes U.S. exports more expensive to foreigners.
b. makes U.S. exports less expensive to foreigners.
c. means a basket of U.S. goods would exchange for more foreign goods.
d. means an appreciation of the nominal exchange rate.
20. The annual volume of foreign exchange transactions:
a. is small relative to most financial markets.
b. is one-eighth the world GDP.
c. is three times the world trade volume.
d. is more than 18 times larger than world GDP.
21. Considering foreign exchange transactions:
a. the U.S. dollar is exchanged in roughly 50% of all currency transactions.
b. all transactions involve the use of the U.S. dollar.
c. most of these transactions are handled in New York.
d. more transactions are handled in London than anywhere else.
22. The law of one price:
a. is based on arbitrage.
b. applies only to real goods and not financial assets.
c. can explain short-run exchange rates but not long-run exchange rates.
d. is a mathematical concept that is not useful in explaining exchange rates.
23. If the euro/U.S.dollar exchange rate is 1.1€/U.S. $ in New York but 1.05€/U.S. $ in
London, we should see:
a. people selling U.S. dollars and buying euros in New York and then selling those euros and
buying $’s in London.
b. people selling euros and buying dollars in New York and then buying euros by selling dollars
in
London.
c. the price differential between the markets increase as people seek to take advantage of the
situation.
d. the dollar should appreciate in New York relative to the euro.
24. If we ignore transportation costs and the price of a pair of Nike shoes in Detroit is 100 U.S.
dollars what should be the price of the Nike shoes in Windsor, Canada (in Canadian dollars) if
the nominal exchange rate is 1.36 Canadian dollars/1 U.S. dollar?
a. 74
b. 100
c. 136
d. 64
25. Considering the law of one price, evidence in the foreign exchange markets over brief intervals
shows:
a. the law works most of the time.
b. this is the closest thing to a perfect law in economics.
c. that the law fails most of the time.
d. the law only works in the very short run.
26. Which of the following does not contribute to the failure of the law of one price?
a. Tariffs
b. Transportation costs
c. Technical specifications
d. Tastes are similar across countries
27. The law of one price fails as a result of:
a. low tariffs.
b. insignificant transportation costs.
c. similar technical specifications.
d. goods that cannot be traded.
28. Concrete likely does not follow the law of one price due to:
a. technical differences.
b. lack of information regarding prices.
c. tariffs.
d. high transportation costs.
29. With regard to exchange rate determination, the law of one price is a useful theory only when
applied to:
a. long-run periods of time.
b. forward exchange rates.
c. very short-run periods of time.
d. futures contracts.
30. The theory of purchasing power parity implies the real exchange rate between two countries
is:
a. flexible.
b. less than one.
c. greater than one.
d. equal to one.
31. The theory of purchasing power parity says:
a. the real exchange rate is always greater than one.
b. a dollar should buy the same goods no matter where in the world you go.
c. the dollar price of a basket of goods in the U.S. should equal the yen price of a basket of
goods in Japan.
d. the real exchange rate is always less than one.
32. The law of one price is not expected to hold for:
a. differentiated goods.
b. financial assets.
c. commodity goods.
d. oil.
33. A tariff disrupts the workings of the law of one price because tariffs:
a. are standardized by GATT.
b. are taxes on imports and can vary across products and countries.
c. apply only to goods countries export.
d. are only applied to commodity products.
34. One reason the theory of purchasing power parity may not explain price differences between
countries is:
a. real exchange rates are almost impossible to calculate.
b. inflation rates differ across countries.
c. some products do not trade.
d. nominal exchange rates are flexible.
35. Purchasing power parity says that:
a. differences in inflation rates between countries should have no impact on the exchange rate
between those countries.
b. differences in inflation rates between countries will create changes in exchange rates.
c. the changes in exchange rates move independently from inflation.
d. for inflation to change the exchange rate, the rate of inflation has to be the same between
countries.
36. The theory of purchasing power parity:
a. contradicts the law of one price.
b. explains exchange rate movements in the short run, while the law of one price explains
exchange rate movements over the long run.
c. assumes away inflation to have any validity.
d. extends the law of one price to a basket of goods.
37. If Great Britain experiences higher rates of inflation than the United States over a long
period of time, we should expect the British £ (pound) per U.S. $ (dollar) exchange rate to:
a. increase.
b. hold constant, there isn’t any link between inflation and exchange rates.
c. decrease.
d. fluctuate in a narrow range set by the Bank of England.
38. If inflation in the United States averages more than inflation in the euro area over a long
period of time, we should expect:
a. the dollar to appreciate relative to the euro.
b. the euro/U.S. dollar exchange rate to fluctuate in a narrow range set by the European Central
Bank.
c. the dollar to depreciate relative to the euro.
d. no effect; there isn’t a link between inflation and exchange rates over the long run.
39. The theory of purchasing power parity assumes:
a. the real exchange and nominal exchange rates are fixed.
b. the nominal exchange rate is fixed but the real exchange rate is flexible.
c. the real exchange rate is fixed but the nominal exchange rate is flexible.
d. the real exchange rate varies with the inflation differential.
40. Considering the theory of purchasing power parity, if inflation in Mexico is 5% while prices
in the U.S. are stable; we should expect over the period of a year:
a. the dollar to appreciate 5% relative to the peso.
b. the peso to appreciate 5% relative to the dollar.
c. the nominal exchange rate to stay fixed.
d. the real exchange rate of U.S. goods / Mexican goods to appreciate 5%.
41. The empirical evidence on purchasing power parity over the long run seems to point out that:
a. the higher a country‘s inflation rate, the greater is the appreciation in the country’s currency.
b. the theory of purchasing power parity cannot explain long-run changes in exchange rates.
c. the higher a country‘s inflation rate the greater is the depreciation in the country‘s currency.
d. there isn’t any clear link between inflation rates and exchange rates.
42. The empirical evidence on purchasing power parity seems to point out that:
a. purchasing power parity can explain long run movements in exchange rates but does not hold
up to scrutiny for short-run changes.
b. purchasing power parity does a good job of explaining short-run movements in exchange
rates, but does not hold up to scrutiny over the long run.
c. purchasing power parity is a good theory for international trade, but is of little use in
explaining exchange rate movements.
d. inflation and a country‘s rate of currency appreciation are positively correlated.
43. Differences in inflation rates between two countries can explain:
a. short-run changes in the exchange rate but not long-run changes.
b. changes in the real exchange rate over the long run, but not changes in the nominal exchange
rate.
c. long-run changes in the exchange rate but not short-run changes.
d. changes in the exchange rate in both the short run and the long run.
44. When a currency is described as overvalued, this typically implies:
a. it is overvalued relative to the exchange rate set by the nation’s central bank.
b. it is selling at an exchange rate less than one.
c. the exchange rate is higher than one year previous.
d. its current market value is higher than the value that is thought to be consistent with
purchasing power parity.
45. When a currency is described as undervalued, this typically implies:
a. it is undervalued relative to what the describer believes purchasing power parity to be.
b. it is undervalued relative to the exchange rate set by the nation’s central bank.
c. the exchange rate is greater than one.
d. the exchange rate is lower than one year previous.
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46. A country‘s current account represents:
a. the amount one country owes to another country.
b. the net flow of all transactions between one country and another country.
c. the amount a country imports from the rest of the world.
d. the net flow of goods and services between that country and the rest of the world.
47. A country with a current account surplus:
a. has imported more than it has exported.
b. as borrowed heavily from the rest of the world.
c. has exported more than it has imported.
d. also has a capital account surplus.
48. A country that exports more than it imports will:
a. have a current account deficit and a capital account deficit.
b. have a current account surplus and a capital account surplus.
c. have a current account deficit and a capital account surplus.
d. have a current account surplus and a capital account deficit.
49. A country that exports less than it imports will:
a. have a current account deficit and a capital account deficit.
b. have a current account surplus and a capital account deficit.
c. have a current account surplus and a capital account surplus.
d. have a current account deficit and a capital account surplus.
50. A country‘s capital account:
a. is synonymous with the current account.
b. will be in a deficit position when the current account is in a deficit.
c. will be in a surplus position if the current account is in a deficit position.
d. reflects the sum of exports minus imports.
51. When a country‘s current account balance is added to its capital account balance, the sum
should be:
a. twice the current account.
b. zero.
c. positive.
d. negative.
52. A country running a current account deficit over a long time is likely to see its exchange
rate:
a. hold steady.
b. appreciate.
c. depreciate.
d. the rate can rise, fall, or hold steady; the current account and the exchange rate are not
linked.
53. A country running a current account surplus over many years is likely to see its exchange
rate:
a. appreciate.
b. depreciate.
c. hold steady.
d. the rate can rise, fall, or hold steady; the current account and the exchange rate are not linked.
54. A country that has a capital account deficit:
a. is a net seller of assets.
b. is importing more goods and services than it exports.
c. also has a current account deficit.
d. is a net buyer of assets.
55. A country that has a capital account surplus:
a. is a net seller of assets.
b. has a current account surplus.
c. is a net buyer of assets.
d. will see its currency remain steady.
56. A country that has a capital account deficit:
a. is a net seller of assets.
b. imports more goods and services than it exports.
c. has a current account surplus.
d. has a current account deficit.
57. Short-run movements in nominal exchange rates are primarily due to:
a. changing prices of goods and services in the countries involved.
b. changing expected rates of return on domestic and foreign assets.
c. inflation differentials.
d. changes in exports.
58. A U.S. resident who wants to purchase an automobile that comes from Japan:
a. will be supplying yen on the foreign exchange market.
b. will make up part of the demand for dollars on the foreign exchange market.
c. will make up part of the supply of dollars on the foreign exchange market.
d. will not be a participant in the foreign exchange market.