Exchange Rates - International Cap Flows

Multiple Choice Questions 1. People or firms use one currency to purchase another currency at the _______________________. A. international currency exchange B. foreign exchange market C. foreign currency exchange D. international parity market Answer: B Reference: Explanation: Type: Multiple Choice 2. The _____________ is an example of a large-scale common currency. A. euro B. dollar C. pound D. franc Answer: A Reference: Explanation: Type: Multiple Choice 3. What do the economies of Greece, Ireland and Germany all share? A. they pegged their various currencies B. they unpegged their various currencies C. a common currency D. floating rate currencies Answer: C Reference: Explanation: Type: Multiple Choice 4. When Mataeo buys Euros through _________________________, he will use his U.S. dollars to pay for them. A. the foreign exchange market B. the currency exchange market C. a floating exchange market D. foreign currency market Answer: A Reference: 1/17 Explanation: Type: Multiple Choice 5. Foreign direct investment is the term used to describe purchases of firms in another country that involve ______________________. A. internationally traded goods across countries B. using another currency C. taking a management responsibility D. the exchange rate market Answer: C Reference: Explanation: Type: Multiple Choice 6. If the Canadian dollar is strengthening, then: A. it has been unpegged from other currencies. B. Canada has adopted a hard peg policy. C. Canada has purchasing power parity. D. it has appreciated in terms of other currencies. Answer: D Reference: Explanation: Type: Multiple Choice 7. A depreciating U.S. dollar is ________________ because it is worth ___________ in terms of other currencies. A. strengthening; more B. weakening; less C. a problem for exporters; less D. beneficial to importers; more Answer: B Reference: Explanation: Type: Multiple Choice 8. ________________________ equalizes the prices of internationally traded goods across countries. A. The foreign exchange rate B. A floating exchange rate C. Purchasing power parity D. An international parity rate Answer: C Reference: 2/17 Explanation: Type: Multiple Choice 9. If government policy allows a country's currency to be determined in the exchange rate market, then that currency will be subject to: A. a hard peg policy. B. purchasing power parity. C. depreciation. D. a floating exchange rate. Answer: D Reference: Explanation: Type: Multiple Choice 10. When a government uses a ______________ exchange rate policy, it usually allows the exchange rate to be set by the market. A. PPP B. soft peg C. hard peg D. currency Answer: B Reference: Explanation: Type: Multiple Choice 11. For firms engaged in international lending and borrowing, ____________________ can have an enormous effect on profits. A. swings in exchange rates B. trade-offs and risks C. foreign portfolio investment D. foreign direct investment Answer: A Reference: Explanation: Type: Multiple Choice 12. Exchange rates are an effective way to analyze the price of one currency in terms of another currency with _________________________. A. distinctive trade-offs and risks B. exchange rate policy C. monetary policy D. the tools of demand and supply Answer: D Reference: 3/17 Explanation: Type: Multiple Choice 13. The _____________________________ is the largest market in the world economy. A. international exchange market B. foreign exchange market C. foreign currency market D. international currency market Answer: B Reference: Explanation: Type: Multiple Choice 14. One of the following groups is not participating in the foreign exchange markets. Which one? A. Boston business firms trading goods and services with firms in France B. international investors buying bonds issued by a German car manufacturing firm C. an Iowa travel firm that arranges vacation tours for local seniors to Hawaii D. international investors buying part-ownership of a mining operation in Afghanistan Answer: C Reference: Explanation: Type: Multiple Choice 15. The most commonly traded currency in foreign exchange markets is the: A. euro. B. U.S. dollar. C. Chinese yuan. D. British pound. Answer: B Reference: Explanation: Type: Multiple Choice 16. Which of the following is no longer one of the most commonly traded currencies in foreign exchange markets? A. U.S. dollar B. British pound C. Japanese yen D. French franc Answer: D Reference: 4/17 Explanation: Type: Multiple Choice 17. If 112 Japanese yen purchased $1.00 U.S. in 2008 and 83 Japanese yen purchased $1.00 U.S. in 2009, then: A. the dollar depreciated against the yen. B. the dollar appreciated against the yen. C. the yen depreciated against the dollar. D. the yen weakened against the dollar. Answer: A Reference: Explanation: Type: Multiple Choice 18. If 1000 Mexican pesos could buy $1.00 U.S. dollar in 2006 and 87 U.S. dollars in 2010, then: A. the dollar depreciated against the peso. B. the peso appreciated against the dollar. C. the dollar strengthened against the peso. D. the peso strengthened against the peso. Answer: C Reference: Explanation: Type: Multiple Choice 19. If $1.00 U.S. bought $1.40 Canadian dollars in 2006 and in 2010 it bought $1.00 Canadian dollar, then; A. the U.S. dollar appreciated against the Canadian dollar. B. the Canadian dollar weakened against the Canadian dollar. C. the U.S. dollar strengthened against the Canadian dollar. D. the Canadian dollar appreciated against the U.S. dollar. Answer: D Reference: Explanation: Type: Multiple Choice 20. In 2010, 100 Japanese yen purchased .88 U.S. dollars and in 2013, it purchased . 93 U.S. dollars. How much was 1 U.S. dollar worth in Japanese yen, in 2010 and 2013? A. 2010: 88 yen, 2013: 93 yen B. 2010: 100 yen, 2013: 114 yen C. 2010: 113.6 yen, 2013: 107.5 yen D. 2010: 112.4 yen, 2013: 105.3 yen 5/17 Answer: C Reference: Explanation: Type: Multiple Choice Category: Apply 21. In 2010, $1.00 U.S. bought 8.24 Chinese yuan and in 2012 it bought 6.64 Chinese yuan. How many U.S. dollars could 1 Chinese yuan purchase in 2010 and 2012? A. 2010: .12 U.S. dollars; 2012: .15 U.S. dollars B. 2010: 1.2 U.S. dollars; 2012: 1.5 U.S. dollars C. 2010: .82 U.S. dollars; 2012: .66 U.S. dollars D. 2010: .15 U.S. dollars; 2012: .11 U.S. dollars Answer: A Reference: Explanation: Type: Multiple Choice Category: Apply 22. In 2010, 1 Canadian dollar cost .56 British pounds and in 2012 it cost .63 British pounds. How much would 1 British pound purchase in Canadian dollars in 2010 and 2012? A. 2010: 1.78 dollars, 2012: 1.57 dollars B. 2010: 1.79 dollars, 2012: 1.59 dollars C. 2010: 1.87 dollars, 2012: 1.65 dollars D. 2010: 1.97 dollars, 2012: 1.75 dollars Answer: B Reference: Explanation: The numbers in the answer key for this question have been rounded off. Type: Multiple Choice Category: Apply 23. In 2009, 1 U.S. dollar purchased 1400 Korean won and in 2013 it purchased 900 Korean won. How much did 1000 Korean won cost in U.S. dollars in 2009 and 2013? A. 2009: .84 dollars, 2013: 1.09 dollars B. 2009: .72 dollars, 2013: 1 dollar C. 2009: .83 dollars, 2013: 1.12 dollars D. 2009: .71 dollars, 2013: 1.11 dollars Answer: D Reference: Explanation: The numbers in the answer key for this question have been rounded off. Type: Multiple Choice Category: Apply 24. In 2010, 1 Swiss franc cost .56 British pounds and in 2012 it cost .51 British pounds. How much would 1 British pound purchase in Swiss francs in 2010 and 2012? A. 2010: 1.79 francs, 2012: 1.96 francs B. 2010: 1.78 francs, 2012: 1.98 francs C. 2010: 1.71 francs, 2012: 2.00 francs 6/17 D. 2010: 1.73 francs, 2012: 1.97 francs Answer: A Reference: Explanation: The numbers in the answer key for this question have been rounded off. Type: Multiple Choice Category: Apply 25. Which of the following is an example of a pegged currency? A. U.S. dollar B. British pound C. Euro D. Chinese yuan Answer: D Reference: Explanation: Type: Multiple Choice 26. Portfolio investments are often made based on beliefs about how _______________ are likely to move in the near future. A. interest rates B. foreign investment tax rates C. exchange rates or rates of return D. bond rates and interest rates Answer: C Reference: Explanation: Type: Multiple Choice 27. If American Airlines were to purchase Malaysian Airlines, it would likely have ______________________________ in mind. A. beliefs about how exchange rates will move in the near future B. a longer-term horizon C. beliefs about how rates of return will move in the near future D. a shorter-term horizon Answer: B Reference: Explanation: Type: Multiple Choice 28. Which of the following denotes a common misunderstanding about exchange rates? A. an appreciating currency must be better than a stronger currency B. a depreciating currency must be better than an appreciating currency C. a weaker currency must be better than a stronger currency 7/17 D. an appreciating currency must be better than a depreciating currency Answer: D Reference: Explanation: Type: Multiple Choice 29. Movements in exchange rates can have a powerful effect on incentives to export and import, and thus on ________________ in the economy as a whole. A. aggregate supply B. aggregate demand C. direct investments D. portfolio investments Answer: B Reference: Explanation: Type: Multiple Choice 30. From a macroeconomic point of view, increases in ____________ are an addition to aggregate demand, while increases in ___________ are a subtraction from aggregate demand. A. rates of return; exchange rates B. exchange rates; rates of return C. exports; imports D. imports; exports Answer: C Reference: Explanation: Type: Multiple Choice 31. Expansionary monetary policy lowers ______________, and increases demand for investment and consumer borrowing, which shifts aggregate demand to the ________________. A. interest rates; right B. rates of return; left C. rates of return; right D. exchange rates; left Answer: A Reference: Explanation: Type: Multiple Choice 32. A ______________________ monetary policy can be used to decrease aggregate demand because it _____________ exports and _________________ imports . 8/17 A. tight; stimulates; reduces B. loose; stimulates; reduces C. expansionary; reduces; stimulates D. contractionary; reduces; stimulates Answer: A Reference: Explanation: Type: Multiple Choice 33. If the U.S. government uses an expansionary monetary policy to reduce interest rates, then it will: A. lead to higher imports and lower exports. B. cause the exchange rate for U.S. currency to depreciate. C. lower levels of consumption and investment. D. cause the exchange rate for U.S. currency to appreciate. Answer: B Reference: Explanation: Type: Multiple Choice 34. Referring to the diagram above, which of the following statements is true? A. Monetary policy that increases the money supply also increases the level of potential GDP. B. Tight monetary policy expands the economy by increasing the level of potential GDP. C. This contractionary monetary policy shift will also affect exchange rates for both imports and exports. D. This expansionary monetary policy shift also includes the effect of exchange rates on exports and imports. Answer: D Reference: Explanation: Type: Multiple Choice Category: Evaluate 9/17 35. Suppose the diagram above refers to a situation where investors in the US are looking to Japan as a place where they should invest for a future high rate of return, while Japanese investors are looking to lower their investments in the US. The combined effect will A. shift the demand curve out, the supply curve shifts in and the value of the dollar decreases. B. shift the supply curve out, the demand curve shifts in and the value of the dollar increases. C. shift the demand curve out, the supply curve shifts in and the value of the dollar increases. D. shift the supply curve out, the demand curve shifts in and the value of the dollar decreases. Answer: D Reference: Explanation: Type: Multiple Choice 36. A central bank must be concerned about whether a large and unexpected ___________________________ will drive most of the country’s existing banks into bankruptcy. A. exchange rate appreciation B. interest rate increase C. exchange rate depreciation D. increase in foreign investments Answer: C Reference: Explanation: Type: Multiple Choice 37. If a central bank focuses on preventing either high inflation or deep recession by using low and reasonably steady interest rate policy, then: A. foreign investment will increase significantly. B. exchange rates will have less reason to vary. C. domestic investments in foreign businesses will decrease. D. government will intervene to peg the nation's currency. 10/17 Answer: B Reference: Explanation: Type: Multiple Choice 38. A soft peg policy typically allows the exchange rate to move up and down by relatively small amounts in _________________, but seeks to avoid extreme short-term fluctuations. A. the market exchange B. the medium run C. the long run D. the short run Answer: D Reference: Explanation: Type: Multiple Choice 39. If a government uses monetary policy to alter the exchange rate, then it cannot at the same time use monetary policy to address issues of ______________________. A. inflation or recession B. purchases or sales of foreign currencies C. how currency speculators react to rumors D. extreme short-term fluctuations Answer: A Reference: Explanation: Type: Multiple Choice 40. Why would an expansionary monetary policy no longer be available to combat recession for a country that has pegged its exchange rate? A. inflation or recession must be ignored in order to focus on its soft peg B. it would appreciate the country's currency and break its hard peg C. it would depreciate the country's exchange rate and break its hard peg D. it will use up all its reserves of international currency to buy its own currency Answer: C Reference: Explanation: Type: Multiple Choice 41. A __________________________ policy in which the government almost never acts to intervene in the exchange rate market will look a great deal like a floating exchange rate. A. pegged exchange rate 11/17 B. loose exchange rate C. hard peg exchange rate D. soft peg exchange rate Answer: D Reference: Explanation: Type: Multiple Choice 42. Governments that attempt to intervene in exchange rate markets through soft pegs or hard pegs: A. risk causing even greater fluctuations in foreign exchange markets. B. will save an economy that consistently fails at achieving the main economic goals. C. gain the power to use monetary policy to focus on domestic inflations. D. gain the power to use monetary policy to focus on domestic recessions. Answer: A Reference: Explanation: Type: Multiple Choice 43. Short run speculation in currencies can create ________________________, at least for a time, where an expected appreciation leads to a stronger currency and vice versa. A. low inflation rates B. high inflation rates C. a self-fulfilling prophecy D. a decrease in the supply side Answer: C Reference: Explanation: Type: Multiple Choice 44. A soft peg exchange rate may create additional _______________ as exchange rate markets try to anticipate when and how the government will intervene. A. volatility B. trade-offs C. demand side effects D. exchange rate zones Answer: A Reference: Explanation: Type: Multiple Choice 45. If a nation merges its currency with another nation to create a single currency, what must it give up? 12/17 A. the ability to purchase currency in foreign exchange markets B. the ability to determine its own nationally-oriented monetary policy C. the ability to fight recessions and control inflations D. the ability to sell currency in foreign exchange markets Answer: B Reference: Explanation: Type: Multiple Choice 46. The Canadian dollar will most likely strengthen against the U.S. dollar if: A. U.S. interest rates rise due to exchange rate policies. B. interest rates in Canada fall due to exchange rate policies. C. the Canadian inflation rate becomes extremely low. D. the Canadian dollar is below the PPP exchange rate. Answer: C Reference: Explanation: Type: Multiple Choice 47. A stronger euro is less favorable for: A. German tourists traveling abroad. B. American tourists traveling in France. C. Canadian firms selling in Germany. D. Canadian investors with money investments in Germany. Answer: B Reference: Explanation: Type: Multiple Choice 48. A stronger British pound is beneficial for: A. U.S. exchange students studying in Britain with a U.S. scholarship. B. British firms selling goods and services in Canada. C. British investors who have invested money in Australia. D. exchange students with a British scholarship studying in Canada. Answer: D Reference: Explanation: Type: Multiple Choice 49. If the U.S. dollar weakens, which of the following parties will benefit? A. countries exporting to the U.S. B. Australian firms selling in the U.S. 13/17 C. U.S firms selling in Europe D. Japanese investors who have money in the U.S. Answer: C Reference: Explanation: Type: Multiple Choice 50. If Australia's exchange rate is stronger than the PPP rate for several years, which of the following will likely result? A. its imports will increase B. its exports will increase C. aggregate demand will increase D. trade deficit will decrease Answer: A Reference: Explanation: Type: Multiple Choice Essay Questions 1. List the groups of people or firms that would be considered by an individual wanting to develop an intuitive sense of how demand and supply operate in foreign exchange markets. Explanation: There are four groups of people or firms who participate in the market to be considered: (1) firms that are involved in international trade of goods and services; (2) tourists visiting other countries; (3) international investors buying ownership (or part-ownership) of a foreign firm; (4) international investors making financial investment that don’t involve ownership. Reference: Type: Essay 2. Identify the choices that all countries must make with respect to their exchange rates, as well as the outcomes that will be commonly experienced by all exchange rate policy choices. Explanation: Each country must decide whether to allow its exchange rate to be determined in the market, or whether the central bank should intervene in the exchange rate market. All of the choices for exchange rate policy involve distinctive trade-offs and risks. Reference: Type: Essay 14/17 3. Discuss portfolio investments, including what they are linked to, what they are based on, and methods used to protect the investment from risk of loss. Explanation: Portfolio investment is often linked to expectations about how exchange rates will shift. Portfolio investments are often made based on beliefs about how exchange rates or rates of return are likely to move in the near future. Of course, this kind of investing comes without guarantees, and an investor will suffer losses if the exchange rates do not move as predicted. Many portfolio investment decisions are not as simple as betting that the value of the currency will change in one direction or the other. Instead, they involve firms trying to protect themselves from movements in exchange rates. Financial contracts like hedging, where parties wish to be protected against exchange rate movements, also commonly lead to a series of portfolio investments by the firm that is receiving a fee to provide the hedge. Reference: Type: Essay 4. Briefly describe how the foreign exchange market works. Include a discussion of the behind-the-scenes workings and provide an indication of the size of transactions that can be involved. Explanation: The foreign exchange market works through financial institutions, and it operates on several levels. Behind the scenes banks turn to a smaller number of financial firms known as “dealers,” who are actively involved in large quantities of foreign exchange trading. Most foreign exchange dealers are banks, so this behind-the-scenes market is sometimes called the “interbank market,” although a few insurance companies and other kinds of financial firms are involved. Trades between foreign exchange dealers can be very large, involving hundreds of millions of dollars. Reference: Type: Essay 5. Briefly discuss the motivation for investment including a description of what it is, how it affects demand and supply, and currency valuations. Explanation: The motivation for investment, whether domestic or foreign, is to earn a return. Changes in the expected rate of return will shift demand and supply for a currency. If rates of return in a country look relatively high, then that country will tend to attract funds from abroad. Conversely, if rates of return in a country look relatively low, then funds will tend to flee to other economies. Thus, a higher interest rate or rate of return relative to other countries leads a nation’s currency to appreciate or strengthen, and a lower interest rate relative to other countries leads a nation’s currency to depreciate or weaken. Reference: 15/17 Type: Essay 6. Identify the exchange rate that equalizes the prices of internationally traded goods across countries and briefly discuss the main functions this exchange rate serves. Explanation: The exchange rate that equalizes the prices of internationally traded goods across countries is called the purchasing power parity or PPP exchange rate. The purchasing power parity exchange rate serves two main functions. First, PPP exchange rates can be useful for making comparisons between countries because they stay fairly constant from day to day or week to week and only change modestly, if at all, from year to year. Second, over a period of years, exchange rates do tend to move in the general direction of the PPP exchange rate and there is some value to knowing in which direction the exchange rate is more likely to shift over the long run. Reference: Type: Essay 7. Briefly explain why a central bank will be concerned about the exchange rate. Explanation: A central bank will be concerned about the exchange rate for three reasons: (1) Movements in the exchange rate will affect the quantity of aggregate demand in an economy; (2) Frequent substantial fluctuations in the exchange rate can disrupt international trade and cause problems in a nation’s banking system; (3) The exchange rate may contribute to an unsustainable balance of trade and large inflows of international financial capital, which can set the economy up for a deep recession if international investors decide to move their money to another country. Reference: Type: Essay 8. Identify the main responsibilities of a central bank and what it must be concerned about. Explanation: The main responsibilities of a central bank are to control the money supply and to assure that the banking system is stable. A central bank must be concerned about whether a large and unexpected exchange rate depreciation will drive most of the country’s existing banks into bankruptcy. Reference: Type: Essay 9. Identify the firms that would be most concerned about exchange rates and explain the reasons for their concerns. 16/17 Explanation: Firms that depend on export sales, or firms that rely on imported inputs to production, or even purely domestic firms that compete with firms tied into international trade are concerned about exchange rates because sharp movements in exchange rates can lead to dramatic changes in profits and losses. Reference: Type: Essay 10. International financial investors are moving funds from Talona to other countries. This depreciation is causing even more disenchantment with this Talona's currency. Describe the affects will this have on the supply and demand curves for this currency on the foreign exchange markets? Explanation: The supply of Talona's currency on foreign exchange markets will shift to the right from S1 to S2, and demand for the currency will shift to the left from D1 to D2. 17/17