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59. Which of the following provides a strong incentive to supply dollars on the foreign
exchange market?
a. To purchase goods and services produced abroad
b. To get a lower return paid on foreign currencies that is not subject to the risk associated with
exchange-rate fluctuations
c. To invest in U.S. assets
d. To take advantage of higher inflation rates in other countries
60. Considering the euro/U.S. dollar exchange rate, as a U.S. dollar increases in value
versus the euro (holding other factors constant):
a. we would expect the supply curve of dollars to slope downward.
b. foreign goods become relatively less expensive than American goods.
c
. foreign assets become relatively more expensive than American assets.
d. American goods become relatively less expensive than foreign goods.
61. Considering the euro/U.S. dollar exchange rate, as a U.S. dollar decreases in value
versus the euro (holding other factors constant):
a. this is represented by a downward movement along the supply of dollars curve.
b. this would be represented by an upward sloping demand for dollars curve.
c. this would be represented by a leftward shift of the supply of dollars curve.
d. this is represented by an upward movement along the demand for dollars curve.
62. In the foreign exchange market, the demand for U.S. dollars is made up from:
a. foreigners desiring to purchase U.S. goods, services, and assets.
b. Americans who want to hold more currency.
c. Americans wishing to purchase foreign goods, services, and assets.
d. Americans who want to invest in foreign assets.
63. Considering the euro-U.S. dollar market, as a euro purchases a larger number of U.S.
dollars, we should see:
a. the quantity of dollars demanded decrease.
b. the quantity of dollars supplied increase.
c. an increase in the purchase of U.S. assets by Europeans.
d. a decrease in American exports to Europe.
64. If Americans develop a greater appreciation for Mexican-made goods, we should
observe the following change(s) in the U.S. dollar-peso market:
a. the demand curve for dollars shifts right.
b. the supply curve of dollars shifts left.
c. the demand curve for pesos shifts right.
d. a movement down the supply curve of dollars.
65. If Americans develop a greater appreciation for Mexican-made goods, we should observe
the following change in the dollar-peso market:
a. the supply curve of dollars shifts right.
b. the demand curve for pesos shifts left.
c. the supply curve of dollars shifts left.
d. the demand curve for dollars shifts right.
66. If Europeans increase their demand for American cars, everything else constant, we should
observe the following change in the U.S. dollar-euro market:
a. the supply curve of dollars shifts left.
b. the demand curve for dollars shifts
left.
c
. the demand curve for dollars shifts right.
d. the supply curve of dollars shifts right.
67. An increase in wealth in the U.S. will lead to the following in the foreign exchange market:
a. a decrease in the demand for dollars.
b. a decrease in the supply of dollars.
c. an increase in the supply of dollars.
d. an increase in the demand for dollars.
68. A decrease in Americans' preference for foreign goods will lead to the following in the
foreign exchange market:
a. an increase in the demand for dollars.
b. a decrease in the supply of dollars.
c. a depreciation of the dollar relative to foreign currencies.
d. a movement down the demand curve for dollars.
69. An increase in the real interest rate on U.S. bonds, everything else equal, will have the
following impact on the foreign exchange market:
a. the demand for dollars will decrease.
b. the supply of dollars will increase.
c. the dollar will depreciate relative to foreign currencies.
d. the demand for dollars will increase.
70. An increase in the real interest rate on U.S. bonds, everything else equal, will have the
following impact on the foreign exchange market:
a. the demand for dollars will increase.
b. the supply of dollars will increase.
c. the dollar will depreciate relative to foreign currencies.
d. there will be a movement up the existing demand for dollars curve.
24
71. An increase in European wealth, all other factors held constant should:
a. have no impact at all on the demand for dollars.
b. cause the demand for dollars to decrease.
c. cause the demand for dollars to increase.
d. cause the supply of dollars to increase while the demand stays constant.
72. An expected appreciation of the dollar, everything else held constant, should cause:
a. the supply of dollars to increase.
b. the demand for dollars to increase.
c. the demand for dollars to decrease.
d. the dollar to depreciate now relative to other currencies.
73. If a dollar will currently purchase 120 Japanese yen but it is expected that one year from
now a dollar will purchase 130 yen:
a. the demand for dollars now will increase.
b. the demand for dollars now will decrease.
c. the dollar is expected to depreciate.
d. the yen is expected to appreciate.
74. If U.S. assets are seen as having greater risk relative to foreign assets in the market for
foreign exchange, this should cause the:
a. demand for dollars to increase.
b. supply of dollars to decrease.
c. supply of dollars to increase.
d. dollar to appreciate.
75. Between 1998 and the end of 2000, the U.S. ran a large trade deficit; this should have caused
the dollar to depreciate against foreign currencies but instead the dollar appreciated. The main
reason for this is:
a. foreign exchange markets are slow to react.
b. the supply of dollars actually fell.
c. the dramatic increase in U.S. stock prices attracted a lot of foreign capital increasing the
demand for dollars by more than the increase in the supply of dollars.
d. the demand for dollars shifted left by more than the supply of dollars shifted right.
76. If government policymakers intervene in foreign exchange markets to cause the domestic
currency to appreciate:
a. this will benefit all residents of the country.
b. this will be beneficial to exporters.
c. this would be harmful to exporters.
d. this would be harmful to importers.
77. A foreign exchange intervention is:
a. synonymous with a fixed exchange rate.
b. the use of public statements by government officials to influence inflation expectations.
c. only used in crisis situations.
d. the buying/selling of currencies to affect supply or demand which impacts the exchange rate.
78. Large, advanced economies like the United States, Japan, and the euro area generally:
a. use fixed exchange rates to promote stability.
b. allow their respective Treasuries to determine the exchange rates.
c. allow supply and demand to determine exchange rates.
d. give exclusive control of exchange rates to their respective central banks.
79. Between 1997 and early 2016, U.S. policymakers intervened in the foreign exchange markets:
a. almost constantly.
b. twice.
c. never.
d. once a year.
80. One lesson policymakers have learned, and which was evident from Japan's experience in
2002, is:
a. an intervention in the foreign exchange market will not work unless accompanied by a change
in the policy interest rate.
b. an intervention in the foreign exchange market is almost always effective if done on a regular
basis.
c. in order for foreign exchange interventions to work, they must be frequent and
expecte
d.
d. for an intervention in the foreign exchange market to work, the interest rate must be held
constant by the central bank.
81. There was a lot of pressure on U.S. policymakers in late 1999 and into the early 2000's to
decrease the value of the dollar. This pressure was coming mainly from:
a. importers.
b. foreign manufacturers.
c. U.S. manufacturers.
d. foreign central banks.
82. The strong appreciation of the dollar for the last part of the 1990s:
a. was a benefit to all U.S. residents but costly to most foreign producers.
b. was a benefit to U.S. exporters, but put a severe strain on U.S. Importers.
c. was welcomed by all U.S. manufacturers.
d. played a key role in keeping inflation in check even though the economy was growing rapidly.
83. If the Federal Reserve in the United States begins to purchase foreign currency and pay for
these purchases with dollars, this should cause:
a. the dollar to
appreciate.
b. the dollar to
depreciate.
c
. import prices to decrease.
d. exports to decrease.
84. Ignoring risk differences, if we observe American investors purchasing foreign bonds when
the U.S. interest rate is above the foreign interest rate, we could assume that:
a. American investors lack good information.
b. these investors expect the dollar to appreciate over the life of their investment.
c. these investors expect the dollar to depreciate over the life of their investment.
d. these investors expect that U.S. inflation will slow.
Short Answer Question
85. Explain why an appreciating U.S. dollar does not benefit everyone in the U.S.
86. Assuming the law of one price, explain what the exchange rate between U.S. dollars and yen
has to be if the price of steel in Japan is 15,000 yen per ton and the price in the U.S. is $125 per
ton (assume no transaction costs).
87. How will an increase in the U.S. productivity of labor versus labor in the European Union
impact the real exchange rate, all other factors held constant? Explain.
88. Please state whether you agree or disagree with the following statement, and why: "An
increase in the price level of a country, relative to another country's price level, will cause its
currency to appreciate."
89. The price of a Big Mac in the U.S. is $4.93; the price in France is 3.72 euros. The current
exchange rate is 1.07€/$. What is the real exchange rate?
90. In looking at the foreign exchange rates in the Wall Street Journal you notice the U.S. dollar-
euro spot rate is 1.085€/U.S.$ and the six-month forward rate is 1.098€/$. What does this imply?
91. The same laptop computer cost $2,000 in the United States, 220,000 Japanese yen, £1,300
British pounds, and €1900 in Germany. If the law of one price holds, what are the yen/$; £/$ and
€/$ exchange rates?
92. Explain why the law of one price may best be applied to financial assets.
93. In theory, the law of one price makes a lot of sense. So why do we see it fail so often?
94. Explain why a real exchange rate that does not equal one implies purchasing power parity
does not hold.
95. A basket of goods cost $100 in the U.S. and £65 in the United Kingdom. If purchasing
power parity holds, what is the dollar-pound exchange rate?
96. What is the link between purchasing power parity, inflation and the exchange rate?
97. Figure 10.4, shown below, presented data on 62 countries' inflation rates relative to the
U.S. rate of inflation and the percent change in the exchange rate for the years 1980-2010.
What was the relationship between these two variables?
98. Chapter 10 presents the Big Mac Index. While it is a clever illustration, the Big
Mac Index is not really a good example to use to explain the theory of purchasing
power parity. Why not?
99. If a country is running a current account deficit year after year, what should we expect to
happen to the exchange rate for that country? Explain.
100. For many years now the United States has been running large current account deficits.
What do you know about the capital account for the United States and what you predict for the
exchange rate in the future? Explain.
101. Considering the foreign exchange market, specifically the market for U.S. dollars and
British pounds, who is supplying dollars in this market?
102. Using a model of supply and demand for the dollar-pound market, where the horizontal
axis is labeled quantity of British pounds, explain what happens when Americans have an
increased demand for British automobiles.
103. Considering the market for U.S. dollars and Japanese yen, where the horizontal axis is the
quantity of dollars, explain what is likely to happen to the demand and supply of dollars, as well
as the exchange rate, if U.S. interest rates rise relative to Japanese rates.
104. Assume that currently one U.S. dollar will purchase £0.65. Investors believe that one year
from now a U.S. dollar will purchase £0.72. If we consider the U.S. dollar-pound market, where
the horizontal axis measure the quantity of pounds, explain what we are likely to see in terms of
demand and supply and the exchange rate.
105. Considering the foreign exchange market, identify four causes for an increase in the supply
of dollars.
106. Considering the foreign exchange market, identify at least four causes for a decrease in the
demand for dollars.
107. The government of a country that is experiencing strong currency appreciation might find
itself under pressure from some of its own citizens. Who would be likely to be bringing pressure
and why?
108. Explain why the changes we observe in nominal exchange rates in the short run must be
due primarily to changes in the real exchange rate in countries with low inflation.
109. During the latter 1990s and into the early 2000s, the U.S. stock market boomed reflecting
rapid growth in the U.S. economy. In terms of demand for and supply of dollars, explain what
possible impacts this rapid increase in stock market values could have on the exchange rate.
Essay Questions
110. Briefly describe the foreign exchange market.
111. Explain how a currency speculator would use something like the Big Mac Index in order to
make a profit trading currencies.
112. Is it possible for a country to run a trade deficit and yet have the value of its currency not
change? Use a supply and demand model of a foreign exchange market to explain how this could
occur.
113. In the spring of 2002, the Japanese Ministry of Finance intervened in the foreign exchange
market by selling yen and purchasing dollars. Why? And why did the intervention fail?
114. Explain why many industrialized countries do not often intervene in the foreign exchange
market.
