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Chapter: 13 -Problem: 2 >> Generalise the model in this chapter to allow for a bond market, in which households can hold either or both of two bonds with fixed nominal ?face? value: a domestic bond, with fixed price B, paying a known interest rate, r, for loans in period 0, repayable ?with certainty i.e without default risk? at time 1, and the same type of foreign currency instrument, priced at B* in terms of foreign curren
Answer Preview: The model in this chapter can be general ised to allow for a bond market by …

, Chapter: 19 -Problem: 3 >> If the evidence suggested the exchange rate process is chaotic, are there any implications for the rest of the economy? Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining the Dollar Equivalent of any currency other than Dollars, the rate at which such currency may be exchanged into
Answer Preview: The currency exchange rate, along with interest ra…

, Chapter: 2 -Problem: 5 >> What problems might crop up in trying to exploit the following apparent arbitrage opportunities:a) An international brand of suntan lotion on sale at €3.95 in shops in Spanish holiday resorts and at Bt99.95 in Thai resorts, while the exchange rate is €1 = Bt51.00?b) Laptop computers on offer at €1000 equivalent on eBay from a vendor willing to take payment in any convertible currency, while the i
Answer Preview: a ) Problems that could crop up when trying to exploit th…

, Chapter: 5 -Problem: 1 >> “Currency depreciation is always and everywhere a monetary phenomenon”. Is this a fair summary of the Monetary Model?
Answer Preview: Not really. The (domestic) currency also depreciates, according to the Monetary Model, whe…

, Chapter: 11 -Problem: 2 >> On 8th December 2014, you foresee the following possible exchange rates for Renminbi and Thai Baht:Expected Future StateProb(State)RMB per $USTHB per $USState 10.256.10032.000State 20.756.20034.000 (a) Using the example of the RMB exchange rate, do the calculations to confirm the argument for using logs rather than natural numbers in RE models. In other words, demonstrate that:(b) Show that defin
Answer Preview: (a) The expected exchange rate of the RMB (RMB per $US) is: 0 25*6 100 + 0 75*6 500 = 6 400 RMB per …

, Chapter: 2 -Problem: 3 >> A trader finds that a particular generic (i.e unbranded) antibiotic is available in Germany at a price of €0.50 per unit, compared to a minimum price of $0.80 per unit in the USA. The current exchange rate is €1.00 = $1.30, and he reckons that transport and marketing costs will amount to no more than $0.05 per unit.(a) How much profit per unit can the trader make by buying in Germany and importin
Answer Preview: Price in Germany 0 50 Exchange rate 1 = 1 30 Price in USA$ 0 80 Transport et…

, Chapter: 3 -Problem: 2 >> If a major international bank is offering Yen deposits yielding 1% p.a. when at the same time dollar deposits are yielding 7% p.a., and the spot exchange rate is $1.00 = Yen 110(a) what can you deduce about market expectations regarding the likely future exchange rate?(b) If you are convinced that the spot exchange rate 12 months from now will be $1.00 = Yen 120, what should you do? Give your an
Answer Preview: r(Japan) = 1 00% r(US) = 7 00% Spot exchange rate $1 00 = 110 (a) Approximately: r(Japan) - r(US) = -6 00% So $ expected to depreciate by: 6 00% to: 103 4 More precisely: (1+r(Japan)) = (1+r(US))*(S(e…

, Chapter: 1 -Problem: 5 >> Are the problems involved in fixing an exchange rate the same as those involved in fixing the price of a commodity e.g. petrol? Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining the Dollar Equivalent of any currency other than Dollars, the rate at which such currency may be exchang
Answer Preview: When there are long periods of excess demand for petrol or Pounds, the problem is the …

, Chapter: 11 -Problem: 5 >> a. Could the forward market be efficient even if agents do not have rational expectations?b. If agents have rational expectations, does it follow that the forward rate must be an unbiased forecast of spot rate?c. If agents are rational and the market is efficient, can you ever lose money?
Answer Preview: a. Yes, but it has to be improbable. For example, suppose all agents were of two types: those who we…

, Chapter: 3 -Problem: 7 >> a. Generalise the model in Sections 3.7.1 and 3.7.2 to allow for i) an inflation risk premium, l, l* in each country’s money market and ii) a risk premium, r, in the UIRP relationship. Then show what conditions have to apply in this more general setting for (3.18) and (3.19) to be valid. Explain your conclusions.b. What factors are likely to drive a wedge between real interest rates in different c
Answer Preview: exchange rate $1 = Current 0 9 Expected in 1 year 0 85 …

, Chapter: 4 -Problem: 2 >> Suppose a country’s monetary authority decided it wanted to keep a fixed relationship between its domestic money stock and its foreign exchange reserves. This would be a version of what is known as a currency board system, or something not very different from the old pre-1914 gold standard, with foreign currency in place of gold. How do you think the system could be implemented? What would it mean
Answer Preview: Suppose the chosen ratio is a , so that the commitment is to preserve the rel…

, Chapter: 2 -Problem: 1 >> Would you expect the Law of One Price to apply in the case of the following products and, if not, why not?a. A barrel of crude oilb. A litre of petrolc. A Real Madrid football club shirtd. A share of Microsoft stocke. A coronary bypass operation
Answer Preview: However, in practice, the law of one price does not always hold true. For e…

, Chapter: 1 -Problem: 4 >> Does the Bank of England hold Pounds Sterling in its reserves? If not, why not? What about the US Federal Reserve?
Answer Preview: No. Because the Bank of England can print Pounds S…

, Chapter: 3 -Problem: 4 >> Given the following data for 13th March 2007:The interest rate on 12-month German T-bills : 4.00 %The interest rate on 12-month Japanese T-bills : 0.61%Spot exchange rate : €1.00 = Yen154.2(a) Making clear your assumptions, compute the market’s expectation of the exchange rate on 13th March 2008.(b) If on 13th March 2007 you find a bank quoting a 12-month forward rate of €1.00 = Yen152.0, explai
Answer Preview: UK T-bill rate 4 06% Jap T-bill rate 0 54% Current exchange rate 1 00 = 197 35 Yen (a) Approx answer…

, Chapter: 3 -Problem: 5 >> Today’s FT is quoting the following rates for the $HK against the €.                                                Jul 29ClosingChangeBid/offerThree monthsOne year mid-pointon dayspreadRate%PARate%PAHK$9.4432+0.0478414- 4499.4759-1.49.5928-1.6 (a) Show how the 3-month and 12-month forward premia (in the column labelled “%PA”) have been computed.(b) Compute the percentage bid-ask spread.(c)
Answer Preview: German T-bill rate 4 00% Japanese T-bill rate 0 61% Current exchange rate 1 00 = 154 2 Yen (a) Appro…

, Chapter: 2 -Problem: 6 >> Suppose a car in the Mercedes Benz range costs €28,000 to produce and is currently selling for €40,000 in Germany, when the exchange rate is €1.00 = $1.25. If the car is on sale for $50,000 in the USA, and if you know that the pass-through rate for this product is 75%, what would you expect to happen to the model’s US price after a fall in the value of the dollar to €1.00 = $1.40?(a) Other things
Answer Preview: a) Value of Euro goes up from $ 1 25 to$ 1 4 i e change of 12 00% with pass-throu…

, Chapter: 5 -Problem: 2 >> Economists distinguish between broad money and narrow money. This is why, if you look at monetary statistics, you will find time series for M1, M2, M3….. each corresponding to a different definition of the money stock.Do you think the Monetary Model of the Exchange Rate involves a particular definition of the money stock? If so, which is correct –broad or narrow money? Exchang
Answer Preview: The Monetary Model of the Exchange Rate involves a narrow definition of the money stock , such as M …

, Chapter: 3 -Problem: 3 >> Given the following information: Spot rate of Swiss Franc ………………………………………………………………….$ 0.80The forward rate of Swiss Franc …………………………………………………..…$ 0.79The interest rate on Swiss Franc deposits………………………………………….  4 %The interest rate on US dollar deposits…………………..…………………….…. 2.5 % what rate of return can be earned on $1m from covered interest arbitrage? Is it a worthwhile undertaking?
Answer Preview: Convert$ 1,000,000 at$ 0 8 givesSF 1,250,000 LendSF 1,250,000 at 4 00% givesSF 1,300,000 Sell for…

, Chapter: 5 -Problem: 4 >> If a small country fixes the exchange rate of its currency against the dollar, how is its money stock determined? What about its inflation rate? Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining the Dollar Equivalent of any currency other than Dollars, the rate at which such curren
Answer Preview: In order to keep its exchange rate fixed against the dollar, a small country has to match US moneta…

, Chapter: 1 -Problem: 7 >> (a) Is there a limit to how long a country can sustain a surplus or deficit on its long term capital account?(b) Is there a limit to how long a country can sustain a surplus or deficit on its current account?
Answer Preview: (a) & (b) Under a floating exchange rate regime, a surplus/deficit on capital account is simply the …

, Chapter: 1 -Problem: 6 >> Given the following quotations at two banks: $USBank ABank BBid rate for $HK0.12850.1279Ask rate for $HK0.12920.1284 Is there an arbitrage opportunity? If so, how much profit could you make starting with $US1M?
Answer Preview: Buy $HK at Bank B at the exchange rate …

, Chapter: 12 -Problem: 1 >> a) If the discovery of a new natural gas field in the Norwegian sector of the North Sea is announced on a Saturday night when the currency markets are more or less closed, would you expect the value of the Norwegian Kronor to change hat about Monday afternoon? What problems arise in trying to estimate the impact on the exchange rate of this sort of event? when business gets going again on Monday
Answer Preview: a) You would expect that the NKr exchange rate would be quoted higher from the outset on Monday mor…

, Chapter: 2 -Problem: 2 >> A UK power station relies on imported coal as an input. A Chinese coal mine can supply coal for RMB266 per ton from the docks at Tianjin, while a Polish supplier is offering the same grade of coal from the docks at Gdansk (Poland) for €30.00 per ton. The power station reckons that transporting a ton of coal from Tianjin to the UK will cost it $5.00, but from Gdansk only $3.00. (a) If the exchange
Answer Preview: a) $ per = 1 88 RMB per $ = 8 3 per = 1 47 China coal RMB 266 00 Polish coal 30 China transport $ 5 …

, Chapter: 1 -Problem: 2 >> Many countries have black markets for foreign exchange. What conditions do you think explain why some countries have a black market in foreign currency, while others have none?
Answer Preview: Black markets for foreign exchange exist when the governme…

, Chapter: 12 -Problem: 2 >> On 04/08/05, the UK monetary policy authorities cut short term interest rates by 0.25%, but the exchange rate of the Pound barely moved during the day. Can one therefore deduce that interest rates have no effect on exchange rates?  Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining
Answer Preview: No, because a 0 25% cut in the Bank of Englands int…

, Chapter: 5 -Problem: 3 >> In the context of the Monetary Model, does currency depreciation cause inflation? Or does inflation cause currency depreciation? Or does neither statement make sense?
Answer Preview: Currency depreciation doesnt cause inflation, though it may …

, Chapter: 7 -Problem: 1 >> Given that the demand for money is reduced by a smaller k at time T, sketch the time series projections of p, r, m-p and s. Is there any difference compared with the case of an increase in money stock?
Answer Preview: Except for m-p, the lower demand fo…

, Chapter: 10 -Problem: 1 >> a) In what sense is the model in Chapter 10 a general equilibrium model? Are any of the models in the earlier chapters general equilibrium models?b) What are the advantages and disadvantages of working with general equilibrium rather than partial equilibrium models?
Answer Preview: a) The model in this chapter sets out the conditions for general equilibrium in the economy as a who…

, Chapter: 19 -Problem: 1 >> If currency markets generate exchange rates that follow a chaotic process, does that mean they fail to function adequately? Would it mean some kind of regulation is needed?
Answer Preview: At the international conference on chaos held by the Royal Society in London in 1986, chaos was defi…

, Chapter: 5 -Problem: 5 >> For some years now, China, Japan and some of the states in the Persian Gulf have had extremely high reserves of US dollars. How far can you explain this state of affairs using the simple Monetary Model? Do you know of any salient features which appear to contradict it?
Answer Preview: As the Monetary Model would have led one to predict: China accumulated vast reserves during the year…

, Chapter: 11 -Problem: 4 >> Can the market’s expectation at t+2 of the exchange rate at t+N be less accurate than its expectation at t+1 of the exchange rate at t+N? Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining the Dollar Equivalent of any currency other than Dollars, the rate at which such currency may
Answer Preview: The answer here follows on from the previous question. Since the rational agents e…

, Chapter: 5 -Problem: 7 >> Recall that the money supply equation in equation (5.9) relates only to the monetary base or stock of high-powered money. Suppose a country has no domestic credit (i.e. DC = 0), so that its monetary base is purely foreign currency reserves, FX. A system like this is called a currency board (see Section 16.4).  Now suppose also that it has a fractional reserve banking system, as do most countries.
Answer Preview: Clearly, equation (5 12) becomes: so that solving for FX gives: Remember that, since g >1 (thats why …

, Chapter: 7 -Problem: 2 >> The exchange rate of the British Pound against the dollar since the global financial crisis has followed this path:Average for month:GBP per $US Mar-080.4995Mar-090.70607Dec-140.63779 Is this evidence of overshooting? If not, why not? If yes, is it an indication that the Dornbusch model may be correct i.e. a good explanation of how exchange rates behave? Exchange Rate
Answer Preview: This question is actually intended to illustrate how hard it is in practice to work out what caused what in any given situation, let alone to test whe…

, Chapter: 2 -Problem: 7 >> Given the following data: UKJAPANYEAR ?AVGE?CPIPPICPIPPI20001001001001002007112.5112.698.1101.6 where CPI and PPI denote consumer and producer price indices respectively, and that the average exchange rate in 2000 was £1.00 =Yen163.3:(a) What exchange rate for the year 2007 would be consistent with PPP on a CPI basis? Given that the average exchange rate in 2007 was actually £1.00 = Yen235.7(b
Answer Preview: (a) UK JAPAN YEAR (AVGE) CPI PPI CPI PPI 2000 100 100 100 10…

, Chapter: 6 -Problem: 1 >> a. The assumption is sometimes made that capital flows are infinitely elastic. What do you think this means? Do you think it is a realistic assumption for a small country? Do you think it is a realistic assumption for a large country?b. How would you interpret this assumption In the context of the Mundell-Fleming model? (Clue: think of the implications for the gradients of the FF and BP curves)c.
Answer Preview: a. It means that the slightest rise (fall) in interest r…

, Chapter: 12 -Problem: 3 >> The bubble mechanism is sometimes called “the bigger fool” view of market behaviour. Can you explain why?
Answer Preview: In a bubble, the market price of the currency is higher than its intrin…

, Chapter: 7 -Problem: 3 >> Prove that in the Dornbusch model the exchange rate overshoots in response to a change in the money stock. Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purposes of determining the Dollar Equivalent of any currency other than Dollars, the rate at which such currency may be exchanged into Dollars...
Answer Preview: Write equation (7 6) in full and differentiate with r…

, Chapter: 1 -Problem: 3 >> a)- Why is nobody interested in the balance of payments of California?b)- Should Americans worry about the size of the deficit in the current account of the US balance of payments?c)- Should we be interested in the balance of payments of the Eurozone member countries?d)- Should we be interested in the balance of payments of the Eurozone as a whole?
Answer Preview: a) California does not have its own currency, so there is no reason to worry about the effect of its …

, Chapter: 4 -Problem: 1 >> Trace the impact on commercial and central bank balance sheets of the following:a. A German tourist paying her hotel bill in Italyb. A Chinese tourist paying her hotel bill in ItalyIs your answer affected by how the two tourists pay their bills? Does it matter whether the Chinese tourist buys her Euros before leaving China?What if they pay by credit card?
Answer Preview: a. Either the German tourists bank account is debited with the Euro amount of the hotel bill immedia…

, Chapter: 1 -Problem: 1 >> Where is the flaw in this logic?“A country’s balance of payments tracks the supply and demand for its currency. Since the balance of payments on capital plus current account is always zero, supply must always be equal to demand and therefore the exchange rate never changes.” Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate me
Answer Preview: The basic balance = the balance of payment on …

, Chapter: 2 -Problem: 4 >> Given the following data about two countries, A and B: Weight in index for country :Current Index level for country ABABFood.22.3584174Other Goods.32.4177233Services.46.24286122 1.001.00 The base year is 1990 = 100, at which time the exchange rate was A1.00 = B2.50 (where A and B are also the names of the currencies of the two countries). Answer each of the following questions under two altern
Answer Preview: Index weights: Index levels: A B A B FOOD 0 22 0 35 84 174 Other goods 0 32 0 41 77 233 services 0 4…

, Chapter: 5 -Problem: 6 >> Generalize the two-country model of a floating exchange rate to take account of the distinction between traded and nontraded goods. Assume that the price index in each country is: where PT, PN are the prices of the two goods in the domestic country, and stars denote the foreign country as usual. PPP applies only to traded goods, since nontraded goods prices are determined in the domestic economy.
Answer Preview: Money market equilibrium given by equation (4 7), (5 4) modified: (a) PPP applies only to traded goo…

, Chapter: 3 -Problem: 1 >> If the current exchange rate is £1.00 = $1.75, the one-year forward rate is £1.00 = $1.85, and the interest rate on UK £ deposits is 8% p.a., what is the riskless dollar-denominated return which can be locked in by an American depositing in the UK? Exchange Rate The value of one currency for the purpose of conversion to another. Exchange Rate means on any day, for purpose
Answer Preview: r(UK) = 8 00% Spot exchange …

, Chapter: 11 -Problem: 3 >> Can rational agents ever be made worse off by having more information?
Answer Preview: The short answer is no. If the information is irrelevant (for exampl…

, Chapter: 6 -Problem: 2 >> Do you think the Mundell-Fleming model has any relevance to the current situation of:a. The UK?b. Germany?c. Greece?
Answer Preview: The Mundell-Fleming model assumes prices are constant. This assumption i…

, Chapter: 14 -Problem: 1 >> What are the advantages and disadvantages of setting broad rather than narrow fluctuation bounds for a fixed exchange rate?
Answer Preview: Advantages of setting broad fluctuations bound for fixed Exchange rate rather than narrow bounds are …

, Chapter: 11 -Problem: 1 >> If Mr A and Mrs B are both rational, must they share the same expectations?
Answer Preview: As can be seen from the definition in Section 11 2, rational agents have expectations which are the …

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12 Reviews for Exchange Rates and International Finance Textbook Questions And Answers