4.2 - exchange rates

Question 1

Exchange Rate

Answer 1

Price of a currency in terms of another currency

Question 2

Depreciation in er

Answer 2

WPIDEC

Question 3

Appreciation in er

Answer 3

SPICED

Question 4

On diagram, what does exports impact?

Answer 4

Demand for domestic currency

Question 5

Free floating exchange rate

Answer 5

The price of currency is determined by changes in demand and supply of market forces for the currency

Question 6

Fixed Exchange rate

Answer 6

Aims to keep the value of the currency the same in terms of another

Question 7

How is a fixed exchange rate managed?

Answer 7

Buying + selling currency
Restrict currency flows
Abandon use of monetary policy
Use of interest rates - attract hot money flows

Question 8

Consequences of er appreciation

Answer 8

GDP / econ growth falls
Unemployment rises
Lower inflation rates
CCAC of BoP worsens

Question 9

Strengths of a free floating exchange rate

Answer 9

• BoP problems automatically corrected
• Monetary policy is more effective at controlling inflation

Question 10

Weaknesses of a free floating er

Answer 10

• Uncertainty over revenue
• Lower er = unsustainable in the LR - run on currency = cost push inflation
• Depreciation doesn’t always improve CCAC BoP - esp if imp/exp = inelastic

Question 11

Strengths of a fixed er

Answer 11

• Reduced uncertainty
• Reduced costs of trade
• Forces firms to be competitive

Question 12

Weaknesses of a fixed er

Answer 12

Speculative attacks on currency
International retaliation
Need to maintain high foreign currency reserves