Q: Which formula correctly expresses the real exchange rate between two countries?

$\text{Real exchange rate} = \text{Nominal exchange rate} \times \dfrac{\text{Domestic price level}}{\text{Foreign price level}}$

Q: Suppose the nominal exchange rate between the U.S. dollar and the British pound is $1 = £1.10$, the U.S. price level is 105, and the British price level is 100. What is the real exchange rate?

$1.10 \times \dfrac{105}{100} = 1.155$

Question 1

Which of the following best describes the balance of payments for a country?

Accepted Answer

It is the record of a country's trade with other countries in goods, services, and assets.

Question 2

Suppose the United States has a current account deficit of $500 billion. According to the balance of payments identity, what must be true about its financial account?

Accepted Answer

The financial account must show a surplus of $500 billion.

Question 3

Which formula correctly expresses the real exchange rate between two countries?

Accepted Answer

$	ext{Real exchange rate} = 	ext{Nominal exchange rate} 	imes \dfrac{	ext{Domestic price level}}{	ext{Foreign price level}}$

Question 4

If the U.S. dollar appreciates against the euro, what is the most likely effect on U.S. exports and imports?

Accepted Answer

U.S. exports will fall and imports will rise.

Question 5

Which of the following is NOT a reason why purchasing power parity may not hold perfectly between countries?

Accepted Answer

All currencies are always freely convertible.

Question 6

A country with a negative net foreign investment is most likely experiencing which of the following?

Accepted Answer

A trade deficit

Question 7

Which equation represents the saving and investment identity in an open economy?

Accepted Answer

$S = I + NFI$

Question 8

If the U.S. government runs a budget deficit, what is the most likely effect on domestic investment and net exports?

Accepted Answer

Both domestic investment and net exports will decrease.

Question 9

Which of the following best describes a managed float exchange rate system?

Accepted Answer

Exchange rates are determined by market forces, but governments occasionally intervene.

Question 10

During the Bretton Woods system, how were exchange rates maintained?

Accepted Answer

By fixing exchange rates to the U.S. dollar, which was convertible to gold.

Question 11

Suppose the nominal exchange rate between the U.S. dollar and the British pound is $1 = £1.10$, the U.S. price level is 105, and the British price level is 100. What is the real exchange rate?

Accepted Answer

$1.10 	imes \dfrac{105}{100} = 1.155$

Question 12

Which of the following would cause the demand for U.S. dollars in the foreign exchange market to increase?

Accepted Answer

An increase in demand for U.S. financial assets by foreign investors.

Question 13

Which of the following is a likely consequence of a country pegging its currency to the U.S. dollar?

Accepted Answer

It may face destabilizing speculation if the currency is perceived as overvalued.

Question 14

In the context of the saving and investment equation, if net foreign investment is negative, what does this imply about national saving and domestic investment?

Accepted Answer

National saving is less than domestic investment.

Question 15

Which of the following statements about monetary policy in an open economy is correct?

Accepted Answer

Expansionary monetary policy is more effective in an open economy due to its impact on net exports.

Question 16

Which of the following is a key feature of the current international exchange rate system?

Accepted Answer

Most major currencies float, but some countries peg their currencies to others.

Question 17

If a country experiences a speculative attack on its currency, what is the most likely outcome if it cannot defend its fixed exchange rate?

Accepted Answer

The country will abandon the fixed exchange rate and allow the currency to float.

Question 18

Which of the following best explains the concept of 'twin deficits'?

Accepted Answer

A country simultaneously has a government budget deficit and a current account deficit.

Question 19

Which of the following is a plausible effect of expansionary fiscal policy in an open economy?

Accepted Answer

It increases aggregate demand but may decrease net exports due to currency appreciation.

Question 20

Suppose the U.S. government increases tariffs on imported goods. What is the most likely effect on purchasing power parity?

Accepted Answer

Purchasing power parity will be prevented or delayed.

Macroeconomics in an Open Economy: Study Notes

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