Macro 6

Question 1

What is currency market?

Answer 1

market where one currency is traded for another

Question 2

What are foreign exchange reserves?

Answer 2

foreign currency holdings of central banks

Question 3

What is the exchange rate?

Answer 3

rate at which one currency is traded for another

Question 4

What do foreign country resident have ot buy domestic currency for? (EG why japan resident buy USD using Yen)

Answer 4

1. buy domestic goods(buy us goods, exports by US)
2. buy domestic assets (capital inflow domestically)

Question 5

What might cause the shift in demand curve for dollars from Japan involving US goods?

Answer 5

• foreign country (Japan’s )real GDP rises
• foreign residents (Japan ) increase their fondness for US goods
• foreign country (Japan) price level rises, relative to US price level

Question 6

What might cause the increase in demand curve for dollars from Japan involving US assets?

Answer 6

foreign country (japan) interest rate falls relative to US interest rate

foreign residents(japan) believe that the dollar will appreciate against the yen

Question 7

What happens to domestic currency when foreign country experience RGDP growth?

Answer 7

domestic exports to foreign country increase

demand for domestic currency shift right

Domestic currency appreciates

Question 8

What is hot money?

Answer 8

funds that can be moved from one type of asset to another at very short notice

Question 9

What are the factors that affect hot money flows?

Answer 9

Changes in expectations and interest rates

Question 10

What happens to price when traders expect domestic currency to depreciate?

Answer 10

For foreign investors, domestic assets less attractive , demand for domestic shift left

For domestic residents, foreign assets are more attractive, supply of domestic currency shift right

RESULT IN LARGE DECREASE IN PRICE OF DOMESTIC CURR TODAY

Question 11

What is arbitrage?

Answer 11

buy an item in one market, sell it in another market for a higher price

Question 12

Arbitrage removes ________________ in exchange rates

Answer 12

virtually all geographic differences

Question 13

What happens when the exchange rate in New york is 95 yen and 105 yen per dollar in London?

Answer 13

demand for usd in new york shift right

sell yen for $ 100 in new york, and sell the 100 usd for higher yen of 10500 yen in London

Supply of USD in london shift right

usd depreciate in london until exchnage rate equal in 2 cities

usd apperciate in new york

Question 14

What is used to predict what happens in the long run when there are different exchange rates?

Answer 14

purchasing power parity

Question 15

What is PPP formula?

Answer 15

price level of good A in Yen in Japan/price level of good A in USD in US

Question 16

How to tell how much something is undervalued?

Answer 16

(PPP- exchange rate )/ exchange rate *100

Question 17

Why does PPP theory not hold exactly?

Answer 17

Transportation costs are not zero

Many goods and services (e.g. haircuts) are non-tradable

Barriers to trade may be present

Other determinants of exchange rate matter

Question 18

How to calculate growth of ppp exchange rate (with japan in numerator for ppp)

Answer 18

japan inflation rate- us inflation rate

If gppp positive, usd appreciate against yen

Question 19

PPP Theory predicts that countries with ________ X% per year _____ than US will see their currencies ____________ against the US dollar

Answer 19

inflation rates
higher
depreciate by X% per year

Question 20

What does it mean by floating exchange rate?

Answer 20

allow demand and supply to operate freely in the currency market

Question 21

What happens when you use fixed exchange rate?

Answer 21

central bank participates in the currency market to ensure that the exchange rate stays within 0.05HKD of the peg

Question 22

What happens when you use managed exchange rates?

Answer 22

central bank also participates in currency markets

manage the value of the Singapore dollar against currencies of its major trading partners, but without explicit commitments

Question 23

Why should we use fixed / managed exchange rates?

Answer 23

Preventing or slowing down appreciation helps exporters and those competing against imports

Preventing or slowing down depreciation helps import-using industries and consumers

Keeping the exchange rate stable reduces the risk for doing international business transactions

Pegging one’s currency to USD ties one’s monetary policy to that of the Fed, gaining credibility to fight inflation

Question 24

How does central bank prevent appreciation, if there is excess demand for domestic currency?

Answer 24

maintain the peg, central bank must sell domestic reserve by shortage each month at the exchange rate at excess demand

buys the equiv amount of usd

central bank accumulates foreign exchange reserves

Question 25

What happens when traders expect depreciation in domestic currency?

Answer 25

Supply of the domestic currency shifts right Demand for domestic currency shifts left Excess supply widens Even faster depletion of reserves!

Question 26

What options does a country if foreign exchange reserve runs out?

Answer 26

Allow the domestic currency to float Devalue domestic currency: lower peg to sustainable level Impose capital control Borrow from IMF : lender of last resort, imf impose stringent condition

Question 27

How did panic spread to other asian countries?

Answer 27

Investors started to wonder if banks and companies in nearby countries were similarly vulnerable! bank run developing into a banking panic

Question 28

What lessons could be learnt from the asian financial crises?

Answer 28

The need for ample foreign exchange reserves The need to monitor private sector borrowing in foreign currency

Question 29

How do exchange rate movement provide source of demand shock?

Answer 29

currency depreciation lead ot net export increase AE increase Y* increase

Question 30

exchange rate channel makes _______impact on output _________ in an open economy than in a closed one How does that occur?

Answer 30

monetary policy’s more powerful interest rate decrease causes domestic assets less attractive, foreign asset more attractive, currency depreciate, NX increase

Question 31

What is the trilemma?

Answer 31

free capital mobility, exchange rate movement, monetary authority

Question 32

What is the difference between bilateral and overall trade balance?

Answer 32

- bilateral: measured against one otehr country - overall: measured against world

Question 33

What is the currency market eqm?

Answer 33

quantity of domestic curr supplied (domestic purchase of foreign gns and assets) = quantity of domestic curr demanded(foreign purchase of domestic gns and assets)

Question 34

What is the eqm condiiton if trade deficit?

Answer 34

Domestic trade deficit (domestic purchase foreign goods- foreign purchase of doemstic goods) = Domestic net financial inflow from foreign country (foreign purchase us asset- domestic purchase of foreign asset)