Deck 15: Exchange Rate Determination

Question 1

The monetary base of the nation refers to the:

A)domestic credit created by the nation's monetary authorities or the domestic assets backing of the nation's money supply
B)international reserves of the nation
C)domestic credit created by the nation's monetary authorities or the domestic assets backing of the nation's money supply plus the international reserves of the nation
D)legal reserve requirements in the nation

Answer 1

C

Question 2

According to the portfolio balance approach,an increase in domestic wealth leads domestic residents to increase the demand for the:

A)domestic money
B)domestic bond
C)foreign bond
D)all of the above

Answer 2

D

Question 3

The portfolio balance approach:

A)can be regarded as an extension of the monetary approach
B)deals with money and other domestic and foreign financial assets
C)can more readily be extended than the monetary approach to deals with the real sector
D)all of the above

Answer 3

D

Question 4

The monetary approach to the balance of payments:

A)views the balance of payments as an essentially monetary phenomenon
B)rests on the purchasing power-parity theory
C)postulates that money plays the crucial role in the long run both as a disturbance and adjustment in the nation's balance of payments
D)all of the above

Question 5

According to the portfolio balance approach,a reduction in the risk premium on the foreign bond leads domestic residents to increase the demand for the:

A)domestic money
B)domestic bond
C)foreign bond
D)all of the above

Question 6

According to the portfolio balance approach,an increase in the expected appreciation of the foreign currency leads domestic residents to increase: a the demand for domestic money
B)the demand for the domestic bond
C)the demand for the foreign bond
D)the risk premium

Question 7

If the legal reserve requirement of the nation is 25%,the money multiplier in the nation is:

A)2
B)4
C)5
D)6

Question 8

The relative PPP theory gives better results:

A)in the long run than in the short run
B)when structural changes take place
C)the greater is the level of commodity aggregation
D)in tests including developed and developing countries

Question 9

According to the monetary approach to the balance of payments,a surplus nation will have to give up in the long-run its goal of:

A)price stability
B)fixed exchange rate
C)price stability or fixed exchange rate
D)price stability and fixed exchange rate

Question 10

If the increase in a nation's money supply grows less rapidly than its GNP,the nation will face a:

A)once-and-for-all balance of payments deficit
B)once-and-for-all balance of payments surplus
C)continuous balance of payments deficit
D)continuous balance of payments surplus

Question 11

According to the monetary approach to the balance of payments,a deficit in the nation's balance of payments results from:

A)an excess in the nation's stock of money supply that is not eliminated or corrected by the nation's monetary authorities
B)an excess in the stock of money demanded in the nation that is not satisfied by domestic monetary authorities
C)an excess in the stock of money demanded in the other nation that is not satisfied by the other nation's monetary authorities
D)an excess of imports over exports in the nation

Question 12

Which of the following is false with regard to exchange rate dynamics:

A)seeks to explain exchange rate fluctuations over time
B)results because the real sector adjusts instantaneously to disturbances
C)in the short run,the exchange rate overshoots its long-run equilibrium
D)results from the stock adjustment in financial assets

Question 13

Which is correct with respect to the absolute PPP theory?

A)It postulates that the exchange rate between two currencies is equal to the ratio of the price levels in the two nations
B)it does not take into consideration transportation costs or other obstructions to the flow of international trade
C)can be very misleading
D)all of the above

Question 14

According to the portfolio balance approach,an increase in domestic real income or GDP leads domestic residents to increase the demand for the:
A )domestic money
B)domestic bond
C)foreign bond
D)all of the above

Question 15

The relative purchasing power-parity theory postulates that:

A)The equilibrium exchange rate is equal to the ratio of the price level in the two nations
B)the change in the exchange rate over a period of time should be proportional to the relative change in the price level in the two nations over the same time period
C)the change in the exchange rate over a period of time should be proportional to the absolute change in the price level in the two nations over the same time period
D)the exchange rate at a period of time should be proportional to the relative prices in the two nations

Question 16

An unexpected increase in the U.S.money supply leads to:

A)an immediate reduction in the U.S.interest rate
B)an immediate larger dollar depreciation
C)a gradual appreciation of the dollar over time
D)all of the above

Question 17

The monetary approach assumes that the following assumption holds:

A)domestic and foreign bonds are perfect substitutes
B)covered interest arbitrage holds
C)expectations do not affect the future spot exchange rate.
D)the risk premium is positive

Question 18

If a nation's money GDP is 100 and the velocity of circulation of money is 4,the quantity demanded of money in the nation is:

A)20
B)25
C)50
D)100

Question 19

Which of the following statements is true with respect to the monetary approach to the balance of payments:

A)the interest differential in favor of the dollar equals the expected rate of appreciation of the euro
B)the interest differential in favor of the dollar equals the expected rate of depreciation of the dollar
C)the interest differential in favor of the pound equals the expected rate of depreciation of the pound
D)all of the above

Question 20

According to the monetary approach to the balance of payments a non-reserve currency nation:

A)has no control over its money supply in the long-run under fixed exchange rates
B)has no control over its money supply in the short-run under fixed exchange rates
C)has no control over its money supply in the long-run under flexible exchange rates
D)retains complete control over its money supply in the long-run

Question 21

Explain the fundamental difference between modern exchange rate theories and traditional exchange rate theories.

Question 22

If the United States rate of inflation is 2% and the German rate of inflation is 5%,what would relative purchasing power parity predict about the value of the euro relative to the dollar,all other things equal?

Question 23

Since the creation of the euro,forecasts have

A)accurately predicted changes in the euro.
B)correctly predicted changes in the euro most of the time.
C)not been used to chart movements in the euro.
D)not been able to correctly chart movements in the euro.

Question 24

A Big Mac costs 6.60 lira in Turkey and $4.20 in the United States.If the actual exchange rate is 1.85 lire/dollar,the Turkish lira is _________,and U.S.tourists will find that Big Macs are _______ than in the United States.

A)overvalued,more expensive
B)overvalued,less expensive
C)undervalued,more expensive
D)undervalued,less expensive

Question 25

Discuss (a)the exchange dynamics of the dollar resulting from an unanticipated reduction of the U.S.money supply and (b)indicate the final long-run equilibrium interest rate,price index,and exchange rate as compared with the original equilibrium position.

Question 26

Explain absolute and relative purchasing power parity (PPP).

Question 27

Suppose that the price level in the United States is 135 and the price level in Germany is 234.What would absolute purchasing power parity theory predict the dollar/euro exchange rate to be?

Question 28

If the rate of inflation in the United States is 4% and the rate of inflation in the United Kingdom is 3%,relative purchasing power would predict that

A)the pound will appreciate relative to the dollar.
B)the pound will depreciate relative to the dollar.
C)both the dollar and the pound will depreciate due to inflation.
D)both the dollar and the pound will appreciate due to inflation.

Question 29

What is the empirical evidence for the monetary and portfolio balance model of exchange rate determination?