Exchange rates

Question 1

What is an exchange rate

Answer 1

The exchange rate: refers to the price of one currency within a country to another country’s currency. The trade weighted index refers to the basket of currencies weighted according to their importance in trade flows within Australia.

An Appreciation refers to an increase in the value of a currency relative to the value of another currency

A Depreciation refers to a decrease in the value of a currency relative to the value of another currency.

Question 2

International transactions

Answer 2

International Transactions

• The demand & supply of a currency is determined by internation transactions within the BOP.
• All economic transactions are credits (Demand) and debits (Supply) of currency.

Question 3

Demand for a currency is determined by:

Answer 3

A) Exports of goods and services
B) Receipt of income from overseas
C) Capital inflow (foreign investment)

Question 4

Supply for a currency is determined by:

Answer 4

A) Imports of goods and services
B) Payment of income to overseas
C) Capital outflows (Investment Abroad)

Question 5

The exchange rate is either:

Answer 5

The exchange rate is either a set price or a free floating currency.

• Free floating is favoured due to the ability to be set by the market forces of demand and supply.
• Changes minute to minute very volatile.

Question 6

What is Australia’s exchange rate

Answer 6

Our currency can be manipulated by the reserve bank in order to provide the most advantageous outcome of the exchange rate. By means of the buying and selling of reserve assets, or by means of the monetary policy. ‘a lightly managed float’

Question 7

Trends in our exchange rate

Answer 7

Trends in the Exchange rate

• Between 2010 to 2012, the currency appreciated to an all time high due to the mining boom
• After the peak, there was a depreciation until 2015
• From 2016 to 2018 the currency depreciated as commodity prices rose due to china’s economic growth
• From 2018 to 2019, the world economy slowed resulting in a depreciation.

Question 8

Factors effecting exchange rates

Answer 8

·       Relative inflation rates
·       Movements in the TOT
·       Domestic Growth rate
·       World Economic growth
·       Interest rate differentials
·       International capital flows

Question 9

What are the two key factors that affect the AUD

Answer 9

1. Commodity prices

2. Interest rate differentials (between AUS and USA)

Question 10

What is the effect of a currency depreciation

Answer 10

Currency Depreciation
Ø Advantage- It causes a competitive advantage through the relative price effects of exports and imports
§ This increases exports but decreases imports
§ A trade deficit is reduced, and trade surplus increases
§ Advantageous to domestic producers and exporters.
Ø Disadvantage- Consumers pay higher for imports
§ Expansionary effects, causes inflation since exports are increased and national income is increased.

Question 11

What is the effect of a currency appreciation

Answer 11

Currency Appreciation
Ø Advantage- consumers pay less for imports, and reduces inflation
Ø Disadvantage- This could harm exporters as a result of higher priced exports to overseas buyer.
§ Consumers are attracted to cheaper imports, disadvantaging domestic producers & retailers.
§ Increase trade deficit/reduces trade balance
§ Reduces net exports
§ Decreases AD
§ Contractionary effect on the economy.