Q: Which of the following best describes the real exchange rate? Use the formula provided.

The real exchange rate is $$E \times \frac{P}{P^*}$$, where $$E is $$the nominal exchange rate, $$P is $$the US price level, and $$P^* is $$the foreign price level.

Question 1

Suppose the exchange rate between the US dollar and the Japanese yen increases from 100 yen per US dollar to 150 yen per US dollar. According to the law of demand for foreign exchange, what happens to the quantity of US dollars demanded in the foreign exchange market?

Accepted Answer

The quantity of US dollars demanded decreases.

Question 2

If the world demand for US exports increases, what is the effect on the demand curve for US dollars in the foreign exchange market?

Accepted Answer

The demand curve shifts rightward.

Question 3

Which of the following best describes the real exchange rate? Use the formula provided.

Accepted Answer

The real exchange rate is $$E 	imes \frac{P}{P^*}$$, where $$E is $$the nominal exchange rate, $$P is $$the US price level, and $$P^* is $$the foreign price level.

Question 4

If the US interest rate differential rises, what happens to the demand and supply curves for US dollars in the foreign exchange market?

Accepted Answer

Demand for US dollars increases and supply decreases.

Question 5

A country’s current account balance is calculated as follows. Which formula is correct?

Accepted Answer

Current account balance = exports - imports + net interest income + net transfers

Question 6

If the US demand for imports increases, what happens to the supply curve for US dollars in the foreign exchange market?

Accepted Answer

The supply curve shifts rightward.

Question 7

Suppose the expected future exchange rate for US dollars rises. What is the effect on the supply and demand for US dollars?

Accepted Answer

Demand for US dollars increases and supply decreases.

Question 8

Which of the following is true about a fixed exchange rate policy?

Accepted Answer

The central bank actively intervenes to maintain the exchange rate at a target value.

Question 9

If a country’s net exports are negative, what does this imply about its international borrowing and lending?

Accepted Answer

The rest of the world supplies funds to the country.

Question 10

Which equation correctly relates net exports to government and private sector balances?

Accepted Answer

$$NX = (T - G) + (S - I)$$

Question 11

Which of the following best describes interest rate parity?

Accepted Answer

Interest rate parity means equal interest rates when exchange rate changes are taken into account.

Question 12

A country that has borrowed more from the rest of the world than it has lent to it during its entire history is called:

Accepted Answer

A debtor nation

Question 13

If the exchange rate is above the equilibrium rate, what is the likely outcome in the foreign exchange market?

Accepted Answer

There will be a surplus of US dollars.

Question 14

Which of the following is NOT a component of the balance of payments accounts?

Accepted Answer

Domestic investment account

Question 15

Suppose the US government sector has a deficit and the private sector has a surplus. What is the effect on net exports?

Accepted Answer

Net exports will be positive if the private sector surplus exceeds the government deficit.

Question 16

Which of the following best describes purchasing power parity?

Accepted Answer

Purchasing power parity means equal value of money in terms of what you can buy.

Question 17

If the central bank intervenes to maintain a target exchange rate but persistent intervention is required on one side of the market, what is the likely outcome?

Accepted Answer

The intervention cannot be sustained.

Question 18

Which of the following is true about a crawling peg exchange rate policy?

Accepted Answer

The target value for the exchange rate changes over time.

Question 19

If a country is a net lender, what does this imply about its net exports and loanable funds?

Accepted Answer

Net exports are positive and the quantity of loanable funds is less than national saving.

Exchange Rates, Foreign Exchange Markets, and International Trade: Study Notes

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