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PPP and Exchange Rate > Test 1 > Flashcards

Test 1 Flashcards

1
Q

Law of One Price

A

P = E x PF - In 2 different countries 1 good will be the same amount after currency exchange

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2
Q

Absolute PPP

A

The tendency for similar goods to sell for similar prices
provides a link between prices and exchange rates.
More of a price level not changes in prices. Does not hold
E = P/PF

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3
Q

Relative PPP

A

It says that the appreciation or depreciation of
the currency in terms of another has to be equal to
the inflation differential between the two.
E^ = P^ - PF^

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4
Q

Equation for inflation/exchange rate

A

inflation A - inflation B = (forward rate - today rate) / today rate

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5
Q

Relative price changes becomes less important over the long run

A

true

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6
Q

relative price changes can change the exchange rate without changing the price level

A

true

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7
Q

Empirical Evidence rejects Absolute PPP and
Relative PPP.
Evidence is even worse in the short-run than in the long-
run.

A

true

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8
Q

Lessons from the graph:

A

1-Exchange rates are much more volatile than inflation
differentials.

2-Deviations from PPP are much more apparent for
monthly data than for annual data.

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9
Q

If the percentage change in the exchange rate is equal to the inflation differential between two countries, then relative PPP holds

A

true

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10
Q

the law of one price applies to non-traded goods because of arbitrage

A

false

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11
Q

what causes permanent deviations from PPP

A

trade barriers / transport cost / non-traded goods that are included in price index

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12
Q

what causes temporary deviations from PPP

A

relative price changes and different speed of adjustments in prices and exchanges rates

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13
Q

what factors that can cause the appearance of deviations from PPP even though none really exists

A

PPP are indexes and trade timing

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14
Q

Merchandise

trade commodities

A

current account

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15
Q

Services
of factors of production. Also includes tourism, royalties,
Transportation costs, insurance premiums

A

current account

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16
Q

Income

Dividends, interest

A

current account

17
Q

Unilateral Transfers

Gifts, foreign aid

A

current account

18
Q

Direct Investment.
Private financial transactions that result in the ownership
Of 10% or more of a business firm

A

capital account

19
Q

Security Purchases.

Private sector net purchases of equity and debt securities

A

capital account

20
Q

Bank Claims and Liabilities

A

capital account

21
Q

US Government Assets Abroad.
change in the US official reserve assets. All assets that can be used to settle debts between countries. (gold, IMF reserve position, foreign currency, etc)

A

capital account

22
Q

Foreign Official Assets in the US

A

capital account

23
Q

Direct quote for currencies

A

As the price of the foreign currency in terms of dollars

24
Q

Indirect quote for currencies

A

As the price of dollars in terms of the foreign currency (indirect)

25
Q

Spot Exchange Market

A

today’s market

26
Q

FX markets are special because…. so tough to find arbitrage opportunities

A

Price info is available and currencies are homogenous

27
Q

Forward premium

A

when a currency’s forward exchange rate is greater than spot rate

28
Q

Forward market

A

buying and
selling currencies to be delivered at a future date.
Specific - big trans

29
Q

Forward Exchange Swap Market

A

A foreign exchange swap is a trade that combines both

a spot and a forward transaction into one contract.

30
Q

Future Market

A

currencies can
be bought or sold for delivery on a future day.
Non-Specific - smaller trans

31
Q

Foreign currency option

A

contract that provides
the right to buy or sell a certain amount of currency at a
fixed exchange rate (what is called the striking price)
at some point in the future.

32
Q

A current account deficit implies the country is a net borrower with the rest of the world”

A

true

PPP and Exchange Rate (1 decks)

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