Deck 8: The Market for Foreign Exchange

Question 1

Which of the following would cause the nominal exchange rate to depreciate?

A)The real exchange rate appreciates.
B)The domestic inflation rate increases.
C)The foreign inflation rate increases.
D)The government budget deficit increases.

Answer 1

The domestic inflation rate increases.

Question 2

Which of the following would cause the nominal exchange rate to appreciate?

A)The real exchange rate depreciates.
B)The domestic inflation rate decreases.
C)The domestic inflation rate increases.
D)The government budget deficit decreases.

Answer 2

The domestic inflation rate decreases.

Question 3

When a country's nominal exchange rate appreciates, the price of

A)that country's goods abroad increases.
B)that country's goods abroad decreases.
C)foreign goods sold in the country increases.
D)that country's goods produced and sold at home increases.

Answer 3

that country's goods abroad increases.

Question 4

Since the 1960s, the percentage of U.S. output exported to foreigners

A)remained about the same.
B)more than doubled.
C)increased by more than ten times.
D)declined by about half.

Question 5

The relation between the nominal and real exchange rates is given by which of the following equations?

A)EX = ( × P)/
B) = (EX × P)/
C)EX = ( × )/P
D) = (EX × )/P

Question 6

A substantial appreciation of the U.S. dollar will likely result in, all else equal,

A)lower demand for U.S. products and layoffs of U.S. workers.
B)increased demand for U.S. products and increased employment of U.S. workers.
C)lower foreign currency prices of U.S. products in foreign countries.
D)higher U.S. dollar prices of foreign products in the United States.

Question 7

If a British automobile sells for £20,000 and the British pound is worth $1.50, then the dollar price of the automobile is

A)$1.60.
B)$12,500.
C)$20,000.
D)$30,000.

Question 8

If the British pound depreciates against the U.S. dollar,

A)British businesses gain by an increase in the dollar price of exports to the United States.
B)British consumers gain by a decrease in the pound price of U.S. exports to Britain.
C)British consumers lose by an increase in the pound price of U.S. exports Britain.
D)U)S. consumers lose by an increase in the dollar price of British exports to the United States.

Question 9

If the Japanese yen appreciates against the U.S. dollar,

A)Japanese businesses gain by a decrease in the dollar price of exports to the United States.
B)Japanese consumers gain by a decrease in the yen price of U.S. exports to Japan.
C)Japanese consumers lose by an increase in the yen price of U.S. exports to Japan.
D)U)S. consumers gain by an decrease in the dollar price of Japanese exports to the United States.

Question 10

About what percentage of U.S. output was exported to foreigners in 2012?

A)1%
B)14%
C)18%
D)25%

Question 11

A change in the dollar value of the British pound from $1.60 to $1.50 represents

A)an increase in the pound price of British goods.
B)an appreciation of the dollar relative to the pound.
C)an appreciation of the pound relative to the dollar.
D)an increase in the dollar price of British goods.

Question 12

Suppose that a slice of pepperoni pizza costs £1 in London and $2 in San Francisco. If the real exchange rate is one-third of a slice of U.S. pizza for one slice of British pizza, how many pounds should you receive in exchange for $1?

A)1/3
B)1)5
C)2
D)3

Question 13

A Japanese television sells for ¥100,000 and a dollar is equal to ¥100. What is the dollar price of the television?

A)$1000
B)$99,900
C)$10,000,000
D)$100,100

Question 14

When a country's real exchange rate appreciates,

A)its nominal exchange rate must also have appreciated.
B)its nominal exchange rate must have depreciated.
C)it can trade its goods for fewer units of foreign goods.
D)it can trade its goods for more units of foreign goods.

Question 15

When a country's real exchange rate depreciates,

A)its nominal exchange rate must have appreciated.
B)its nominal exchange rate must also have depreciated.
C)it can trade its goods for fewer units of foreign goods.
D)it can trade its goods for more units of foreign goods.

Question 16

Nominal exchange rates differ from real exchange rates in that nominal exchange rates

A)do not correct for differing interest rates across countries.
B)do not measure the purchasing power of the currency.
C)are fixed, while real exchange rates are flexible.
D)are flexible, while real exchange rates are fixed.

Question 17

A depreciating nominal exchange rate results from

A)a depreciating real exchange rate.
B)a low domestic inflation rate relative to the foreign inflation rate.
C)an appreciating real exchange rate.
D)a large government budget deficit.

Question 18

When a country's nominal exchange rate depreciates, the price of

A)that country's goods abroad increases.
B)that country's goods abroad decreases.
C)foreign goods sold in the country decreases.
D)that country's goods produced and sold at home decreases.

Question 19

About what percentage of the goods and services purchased by U.S. consumers, businesses, and governments in 2012 were produced by foreigners?

A)5%
B)14%
C)18%
D)40%

Question 20

The nominal exchange rate is

A)the difference between the interest rate in one country and the interest rate in another country.
B)the rate at which a bond may be exchanged for currency.
C)the rate at which a stock may be exchanged for currency.
D)the price of one country's currency in terms of another's.

Question 21

Indirect quotations in terms of foreign currency refers to:

A)expressing exchange rates as units of foreign currency in terms of domestic currency
B)expressing exchange rates as units of domestic currency in terms of foreign currency
C)expressing exchange rates of less traded currency by using a "major" currency
D)expressing exchange rates in terms of commodities such as gold

Question 22

When it takes more euros to purchase a dollar, the dollars is said to have:

A)depreciated
B)appreciated
C)it depends on whether one is using direct or indirect quotations
D)it depends on whether one is considering cross rates or exchange rates

Question 23

Which of the following is NOT a primary center of foreign-exchange trading?

A)New York
B)London
C)Munich
D)Tokyo

Question 24

In what way is a stronger yen/weaker dollar a burden for Japanese exporters?

A)They received dollars when they sell goods but most of their costs of production are in yen.
B)They receive yen when they sell goods but most of their costs of production are in dollars.
C)The price of their exports will decline, resulting in lower profits.
D)The stronger yen is likely to increase Japanese inflation, resulting in lower profits.

Question 25

What action did many Japanese car manufacturers take in response to the stronger yen following the 2007-2009 financial crisis?

A)They only accepted payments in the form of yen.
B)They chose to target China as the primary market for exports.
C)They abandoned the market in the United States.
D)They moved their production to the United States.

Question 26

Speculators who think the euro is likely to decline over the next year can take all of the following actions EXCEPT

A)buying put options on euros.
B)sell euro futures contracts.
C)sell euro forward contracts.
D)buying call options on euros.

Question 27

The daily turnover in the foreign exchange market is:

A)millions of dollars.
B)billions of dollars.
C)trillions of dollars.
D)declining in the last decade.

Question 28

An exporter can hedge against the possible decline in a foreign currency by purchasing

A)put options on the currency.
B)call options on the currency.
C)the currency on the spot market.
D)currency on forward contracts.

Question 29

The largest financial market in the world is the:

A)stock market
B)bond market
C)options market
D)foreign exchange market

Question 30

In the foreign-exchange market, trading

A)is restricted to the hours 10 A.M. to 3 P.M. New York time.
B)may not take place after 5 P.M. London time.
C)takes place at any hour of the night or day.
D)takes place at prices set by the U.S. government in consultation with the governments of other leading countries.

Question 31

If Sony keeps the price of PlayStation 3 constant in terms of dollars, what is the impact on Sony of a stronger yen?

A)a decline in exports to the United States
B)an increase in imports from the United States
C)lower profit
D)higher profit

Question 32

In forward transactions,

A)the exchange takes place at the same exchange rate as in the spot market.
B)currencies are exchanged at a set date in the future.
C)currencies may only be exchanged at rates set by governments well in advance.
D)currency is bought and sold for delivery later that same day.

Question 33

Which of the following is an advantage of hedging with options instead of forward contracts?

A)Options prices tend to be lower than forward prices.
B)If the price moves in the opposite direction to the one hedged against, the hedger can decline to exercise the option and limit the loss to what was paid for the option.
C)If the price moves in the direction of the one hedged against, the hedger can decline to exercise the option and limit the loss to what was paid for the option.
D)Options allow investors to purchase a forward contract at a later date.

Question 34

Suppose a Nintendo Wii has a price of 24,000 yen in Japan and the yen-dollar exchange rate changes from 80 yen to the dollar to 100 yen to the dollar? What happens to the price of the Wii measured in dollars?

Question 35

Large commercial banks are considered to be market makers because:

A)without them, there would be no foreign exchange market
B)they can easily manipulate the value of currencies in the foreign exchange market
C)they are willing to buy and sell major currencies at any time
D)they created the foreign exchange market

Question 36

If the forward exchange rate of the yen in terms of dollars is greater than the spot exchange rate,

A)Japanese interest rates must be higher than U.S. interest rates.
B)U)S. interest rates must be higher than Japanese interest rates.
C)market participants must be expecting the dollar to appreciate against the yen.
D)market participants must be expecting the dollar to depreciate against the yen.

Question 37

If the forward exchange rate of the dollar in terms of pounds is less than the spot exchange rate,

A)inflation must be lower in the United States than in Britain.
B)inflation must be higher in the United States than in Britain.
C)market participants must be expecting the dollar to appreciate against the pound.
D)market participants must be expecting the dollar to depreciate against the pound.

Question 38

Most foreign exchange is bought and sold

A)by governments.
B)by tourists.
C)in over-the-counter markets.
D)on the New York Stock Exchange.

Question 39

In the spot foreign exchange market,

A)only dollars, yen, and pounds may be traded.
B)only dollars and yen may be traded.
C)currencies or bank deposits are exchanged immediately.
D)currencies or bank deposits are exchanged at a fixed date (or spot)in the future.

Question 40

Which of the following is NOT true of the foreign-exchange market?

A)It is an over-the-counter market.
B)Most foreign-exchange trading takes place in London.
C)The busiest trading time is morning east coast time, when markets in New York and London are both open.
D)Trading volume worldwide exceeds $1 trillion per day.

Question 41

If oranges sell for $100 per crate in the United States and 4000 pesos per crate in Mexico, the law of one price indicates that you should be able to exchange $1 for

A)0)025 peso.
B)4 pesos.
C)40 pesos.
D)400 pesos.

Question 42

What is an advantage of using options instead of forward contracts when speculating on exchange rates?

Question 43

If the price level in the United States increases more slowly than the price level in Canada, we would expect

A)interest rates in the United States to be higher than interest rates in Canada.
B)the U.S. dollar to depreciate against the Canadian dollar.
C)the Canadian dollar to depreciate against the U.S. dollar.
D)U)S. productivity to have increased more slowly than Canadian productivity.

Question 44

The law of one price does not hold for

A)agricultural goods.
B)tradeable goods.
C)differentiated goods.
D)goods whose production causes pollution.

Question 45

According to the theory of purchasing power parity, if the inflation rate in England is greater than the inflation rate in Japan,

A)the law of one price has been violated.
B)the nominal value of the pound will appreciate against the yen.
C)the nominal value of the yen will appreciate against the pound.
D)the nominal value of the pound will appreciate against the yen, but only if the two countries are on the gold standard.

Question 46

Differences in price levels

A)explain well actual exchange rate movements.
B)are not capable of explaining well actual exchange rate movements, particularly in the short run.
C)have been small for most countries in the post-World War II period.
D)only can be explained by the fact that little foreign trade actually takes place.

Question 47

Under the theory of purchasing power parity, an increase in the U.S. price level of 10% relative to the Japanese price level will result in

A)a 10% appreciation of the yen.
B)a 10% appreciation of the dollar.
C)an appreciation of the yen by an amount that depends upon what happens to the real exchange rate.
D)an appreciation of the dollar by an amount that depends upon what happens to the real exchange rate.

Question 48

A tariff is a

A)limit on the volume of foreign goods that can be brought into the country.
B)tax on goods purchased from other countries.
C)tax on goods exported to other countries.
D)subsidy by governments to firms that produce goods for export to other countries.

Question 49

The theory of purchasing power parity assumes that

A)nominal exchange rates are not affected by movements in relative price levels.
B)real exchange rates are fixed.
C)movements in nominal exchange rates are the result of movements in real exchange rates.
D)inflation rates are roughly the same in most countries.

Question 50

The law of one price states that

A)most countries require that all entering goods have the same price.
B)most countries require that all exported goods have the same price.
C)identical goods should have the same price anywhere in the world.
D)most countries require that the price of a good not be changed once it is already in a store and available for sale.

Question 51

An exception to the law of one price occurs if

A)the good is not tradeable.
B)demand for the good is stronger in some countries than in others.
C)exchange rates are flexible, rather than fixed.
D)interest rates differ across countries.

Question 52

The theory of purchasing power parity assumes that

A)movements in nominal exchange rates are the result of movements in relative price levels.
B)real exchange rates are volatile.
C)movements in nominal exchange rates are the result of movements in real exchange rates.
D)inflation rates are roughly the same in most countries.

Question 53

What is an advantage of using forward contracts instead of options to hedge against exchange-rate risk?

Question 54

According to the theory of purchasing power parity, whenever a country's price level is expected to fall relative to another country's price level,

A)its currency's real exchange rate relative to the other country's currency should rise.
B)its currency should depreciate relative to the other country's currency.
C)its currency should appreciate relative to the other country's currency.
D)its nominal interest rate should rise relative to the other country's nominal interest rate.

Question 55

The theory of purchasing power parity

A)extends the law of one price to a group of goods.
B)assumes that most changes in nominal exchange rates are the result of changes in real exchange rates.
C)assumes that inflation rates are roughly the same in most countries.
D)was valid only under the gold standard.

Question 56

If the price level in Japan increases more rapidly than the price level in Britain, we would expect

A)interest rates in Japan to lower than interest rates in Britain.
B)the Japanese yen to depreciate against the British pound.
C)the British pound to depreciate against the Japanese yen.
D)Japanese productivity to have increased more rapidly than British productivity.

Question 57

Briefly explain how a U.S. company that exports to Europe can hedge against exchange rate risk.

Question 58

If pepperoni pizzas sell for $10 in Berkeley, California, and £10 in London, England, and the exchange rate is $1.35 = £1,

A)the law of one price has been violated.
B)either the British government or the American government must be interfering with the market determination of the exchange rate.
C)the value of the dollar versus the pound is likely to rise.
D)there is no contradiction in the information given because pizza is not a tradeable good.

Question 59

What is an advantage of using options instead of forward contracts when hedging against exchange-rate risk?

Question 60

In financial markets, leverage refers to:

A)the use of borrowed money in an investment
B)the power to influence the market
C)the use of political connections in attaining financial outcomes
D)the role that speculators have in impacting market outcomes

Question 61

If the price of a Toyota Camry is Y2,000,000 and the price of a Ford Fusion is $20,000, according to the law of one price, the exchange rate between the yen and the dollar should be:

A)Y100 = $1
B)$100 = Y1
C)Y1,980,000=$1
D)the law of one price does not apply since the goods are differentiated

Question 62

Though useful, purchasing power parity does not completely explain long-run movements in exchange rates due to

A)some goods being nontradeable.
B)changes in the real exchange rate.
C)differentiated products.
D)all of the above.

Question 63

What would happen to the value of the dollar if prices in the U.S. increased more rapidly relative to prices in other countries?

Question 64

When deciding between domestic and foreign financial investments, investors typically consider

A)domestic and foreign inflation rates and expected changes in the exchange rate.
B)domestic and foreign budget deficits.
C)shifts in the relative demand for foreign and domestic goods.
D)domestic and foreign interest rates and expected changes in the exchange rate.

Question 65

If U.S. inflation is 2%, Japanese inflation is 1%, and Mexican inflation is 3%, which of the following is true according to the theory of purchasing power parity?

A)The dollar should rise by 1% versus the yen and fall by 1% versus the peso.
B)The dollar should rise by 1% versus the peso and fall by 1% versus the yen.
C)The dollar should rise by 1% versus both the peso and the yen.
D)The dollar should fall by 1% versus both the peso and the yen.

Question 66

Suppose the exchange rate is 10 pesos per dollar and you use $1000 to purchase a one-year Mexican bond that pays 10% interest. Next year, the exchange rate is 11 pesos per dollar. Assuming you convert your funds back to U.S. dollars, how much money will you have in one year?

A)$1000
B)$1100
C)$91
D)$0

Question 67

The nominal interest rate parity condition states that

A)domestic and foreign assets must have nominal returns that are identical, irrespective of the characteristics of the assets.
B)when domestic and foreign assets have identical risk, liquidity, and information characteristics, their nominal returns must also be identical.
C)while nominal returns are equalized across all foreign and domestic assets, real returns may vary widely.
D)while real returns are equalized across all foreign and domestic assets, nominal returns may vary widely.

Question 68

The process by which identical products that are tradeable converge to the same price is called

A)arbitrage.
B)hedging.
C)speculation.
D)risk aversion.

Question 69

We would not expect a Japanese financial asset and a U.S. financial asset with identical risk, liquidity, and information characteristics to have different expected returns because

A)the U.S. and Japanese governments have pledged themselves to avoid this outcome.
B)traders would buy the asset with the higher expected yield and sell the asset with the lower expected yield until the yields were brought into equality.
C)traders would sell the asset with the higher expected yield and buy the asset with the lower expected yield until the yields were brought into equality.
D)the exchange rate between the dollar and the yen would adjust automatically to eliminate any difference in yields.

Question 70

If you are indifferent between investing $1000 for one year in a U.S. Treasury security that has an interest rate of 5% or in a Canadian government security that has an interest rate of 8%, you must be expecting

A)the inflation rate in the United States will be higher than the inflation rate in Canada during the year.
B)the U.S. dollar to depreciate against the Canadian dollar by 3% during the year.
C)the U.S. dollar to appreciate against the Canadian dollar by 3% during the year.
D)productivity growth in Canada to be greater than productivity growth in the United States during the year.

Question 71

A quota refers to:

A)a tax on imported goods
B)a limit on the amount of a good that can be imported
C)the range within which an exchange rate is allowed to fluctuate
D)a limit on the size of a trade deficit

Question 72

Purchasing power parity's assumption that the real exchange is constant

A)is correct in nearly all instances.
B)would be correct were it not for the existence of trade barriers.
C)is not reasonable.
D)is correct for trade between the United States and Japan, but incorrect in most other bilateral trading relations.

Question 73

Which of the following is NOT an implication of the theory of purchasing power parity?

A)Exchange rates move to equalize the purchasing power of different currencies.
B)Exchange rates should be at a level that makes it possible to buy the same amount of goods and services with the equivalent amount of any country's currency in the long run.
C)A country with a higher inflation rate should experience an appreciation of its currency.
D)The real exchange rate should equal one.

Question 74

If the German interest rate is 4% and the U.S. interest rate is 5%, what is the expected change in the value of the dollar in terms of the euro?

A)1%
B)-1%
C)9%
D)-9%

Question 75

If the nominal interest rate parity condition is not met,

A)imports will exceed exports.
B)the return from holding domestic assets must exceed the expected return from holding foreign assets.
C)the return from holding domestic assets must be less than the expected return from holding foreign assets.
D)the return from holding domestic assets must be greater or less than the expected return from holding foreign assets.

Question 76

Suppose that you expect during the next year the dollar will appreciate against the pound from 0.5 pound to the dollar to 0.75 pound to the dollar. How much will you expect to make on an investment of $10,000 in British government securities that will mature in one year and pay interest of 8%?

A)-59.5%
B)-28%
C)8%
D)28%

Question 77

The demand for U.S. dollars represents:

A)the demand for U.S. goods and financial assets by households and firms outside the United States.
B)the demand for foreign goods and financial assets by households and firms within the United States.
C)the demand for U.S. goods and financial assets by households and firms within the United States.
D)the willingness of households and firms that own dollars to exchange them for foreign currency.

Question 78

What real-world complications keep purchasing power parity from being a complete explanation of exchange rates ?

Question 79

International capital mobility refers to

A)the ease with which manufacturing equipment can be transported across countries.
B)the ease with cash may be transferred from one country to another without having to be converted into a foreign currency.
C)the ease with which investors move funds among international financial markets.
D)the ease with which exchange rates may be adjusted to reflect changes in the relative economic strengths of countries.

Question 80

What would happen in the foreign exchange market if the European Central Bank raises European interest rates?

A)There will be a decline in the value of the euro.
B)There will be a decline in the value of the dollar.
C)There will be an increase in the value of the dollar.
D)U)S. interest rates will decline.