Question 1

Assume the interest parity condition holds and that initially i = i*. A decrease in the domestic interest rate will cause:

Accepted Answer

A)  a decrease in the exchange rate. 
B)  an expected appreciation of the domestic currency. 
C)  a decrease in the demand for the domestic currency. 
D)  All of the above. 
E)  None of the above.

Question 2

Assume that the interest parity condition holds. Also assume that the Australian interest rate is 5% while the U.K. interest rate is 7%. Given this information, financial markets expect the pound to:

Accepted Answer

A)  appreciate by 6%. 
B)  appreciate by 2%. 
C)  depreciate by 2%. 
D)  appreciate by 4%. 
E)  depreciate by 4%.

Question 3

Under a fixed exchange rate regime, we know that an increase in stock market wealth that increases consumption will cause:

Accepted Answer

A)  a decrease in net exports. 
B)  an increase in investment. 
C)  an increase in imports. 
D)  All of the above. 
E)  None of the above.

Question 4

When the interest parity condition holds, we know that the domestic interest rate must be equal to:

Accepted Answer

A)  the expected rate of appreciation of the domestic currency. 
B)  the foreign interest rate minus the expected rate of appreciation of the domestic currency. 
C)  the foreign interest rate plus the expected rate of appreciation of the domestic currency. 
D)  the expected rate of depreciation of the domestic currency. 
E)  the foreign interest rate.

Question 5

Under a fixed exchange rate regime, we know that a tax increase will cause which of the following?

Accepted Answer

A)  An increase in the exchange rate. 
B)  An increase in investment. 
C)  An increase in imports. 
D)  An increase in net exports. 
E)  An increase in the interest rate.

Question 6

Assume the exchange rate is allowed to fluctuate freely. Using the IS- LM- IP model, graphically illustrate and explain what effect a tax increase will have on the domestic economy. In your graphs, clearly label all curves and equilibria.

Accepted Answer

The answer of Assume the exchange rate is allowed to...

Question 7

Assume the exchange rate is allowed to fluctuate freely. Using the IS- LM- IP model, graphically illustrate and explain what effect an increase in foreign output (Y*) will have on the domestic economy. In your graphs, clearly label all curves and equilibria.

Accepted Answer

The answer of Assume the exchange rate is allowed to...

Question 8

Assume that the interest parity condition holds and that both the expected exchange rate and the foreign interest rate are constant. Given this information, a decrease in the domestic interest rate will cause:

Accepted Answer

A)  a decrease in the current exchange rate. 
B)  a decrease in the exchange rate expected in the future. 
C)  greater appreciation of the domestic currency expected in the future. 
D)  an increase in the current exchange rate. 
E)  greater depreciation of the domestic currency expected in the future.

Question 9

Assume that there is a simultaneous tax cut and monetary contraction. In a flexible exchange rate regime, we know with certainty that:

Accepted Answer

A)  the exchange rate would increase. 
B)  the exchange rate would increase and output would decrease. 
C)  the exchange rate would decrease and output would increase. 
D)  the exchange rate and output would both increase. 
E)  the exchange rate would increase and output would remain unchanged.

Question 10

Assume the exchange rate is fixed. Using the IS- LM model, graphically illustrate and explain what effect falling consumer confidence will have on the domestic economy. In your graphs, clearly label all curves and equilibria.

Accepted Answer

The answer of Assume the exchange rate is fixed. Using...

Question 11

In an open economy under flexible exchange rates and represented by the IS- LM- IP model, a tax increase will cause a decrease in which of the following?

Accepted Answer

A)  Exports. 
B)  Net exports. 
C)  The exchange rate. 
D)  Both A and B. 
E)  Both B and C.

Question 12

Suppose a country is pursuing a fixed exchange rate regime with imperfect capital mobility. The ability of that country to move its domestic interest rate while maintaining its exchange rate will depend on:

Accepted Answer

A)  the degree of capital controls. 
B)  the degree of development of its financial markets. 
C)  the amount of foreign exchange it holds. 
D)  All of the above. 
E)  Both B and C.

Question 13

An individual will be indifferent between holding foreign or domestic bonds when which of the following conditions holds?

Accepted Answer

A)  Interest parity must hold. 
B)  The J- curve effect must hold. 
C)  The expected rate of depreciation of the domestic currency must be zero. 
D)  The Marshall- Lerner condition must hold. 
E)  The foreign and domestic interest rates must be equal.

Question 14

Explain what the IP curve is and why it is upward sloping.

Accepted Answer

The answer of Explain what the IP curve is and...

Question 15

Explain what effect each of the following events will have on the IS curve in a flexible exchange rate regime: (1) an increase in foreign output; (2) a decrease in the foreign interest rate; and (3) an increase in the domestic interest rate.

Accepted Answer

The answer of Explain what effect each of the following...

Question 16

In the early 1990s, which nation took the lead in driving up European interest rates?

Accepted Answer

A)  Spain. 
B)  France. 
C)  Germany. 
D)  United Kingdom. 
E)  Belgium.

Question 17

Suppose a country switches from a flexible to a fixed exchange rate. Which of the following will occur as a result of this change?

Accepted Answer

A)  Both fiscal and monetary policy will become more effective in changing GDP. 
B)  A given change in government spending will now have a greater effect on output. 
C)  Both fiscal and monetary policy will become completely ineffective in changing GDP. 
D)  Monetary policy will become a more effective tool for changing output. 
E)  A given change in government spending will now have a smaller effect on output.

Question 18

Assume that policy makers are pursuing a fixed exchange rate regime. Now suppose a budget is passed that calls for a decrease in government spending. This government spending cut will cause which of the following to occur?

Accepted Answer

A)  No change in net exports. 
B)  No change in output. 
C)  An increase in imports. 
D)  A decrease in the interest rate. 
E)  A decrease in investment.

Question 19

Assume that the price levels in two countries are constant. In this situation, we know that:

Accepted Answer

A)  the real and nominal exchange rate must move together, changing by the same percentage. 
B)  neither the real nor the nominal exchange rate can change. 
C)  the nominal exchange rate can change, while the real exchange rate is constant. 
D)  the nominal exchange rate will fluctuate more widely than the real exchange rate. 
E)  the real exchange rate can change, while the nominal exchange rate is constant.

Question 20

For this question, assume that all price levels are fixed. Now suppose that there is a real exchange rate depreciation. This real depreciation will cause which of the following to occur?

Accepted Answer

A)  A decrease in net exports. 
B)  A decrease in exports. 
C)  An increase in net exports. 
D)  An increase in imports. 
E)  A decrease in demand for domestic output.

Exam 20: Output, the Interest Rate and the Exchange Rate