1. Explain how each of the following will affect the relative values of the doll
ID: 1116909 • Letter: 1
Question
1. Explain how each of the following will affect the relative values of the dollar and the French franc:
a. Income growth higher in the United States than in France.
b. Inflation higher in France than in the United States.
c. A real interest rate higher in the United States than in France.
2. Classify each of the following as debits or credits in the U.S. balance of payments.
Americans buy chocolate from the Swiss.
U.S. gives foreign aid to Bosnia.
British investors purchase U.S. government bonds.
American tourists travel to Australia.
Volkswagen earns profits in the United States from its new cars.
Toyota builds a new plant in Ohio.
Capital Records sells rock and roll music in Sweden
3. What factors will shift the supply and demand for currency?
4. What are the three categories of transactions in the balance of payments? Give an example of each.
5. Economists sometimes say that the current exchange rate system is a dirty float system. What does this mean?
Explanation / Answer
(1)
(a) When income growth is higher in US than in France, US aggregate demand rises more rapidly than production increases, therefore US import demand increases. As US imports more from France, demand for French Franc rises in order to pay for the imports and demand for Dollar falls. This appreciates the Franc and depreciates the dollar.
(b) Higher inflation in France makes domestically produces goods in France more expensive, therefore French demand for US exportable goods increases, increasing French import demand. As a result, French demand for US dollar rises in order to pay for US imports. Demand for Fran falls, therefore Franc depreciates and US dollar appreciates.
(c) Higher real interest rate in US makes US a better investment decision compared to France, therefore global investment comes into US. Demand for US dollar rises and demand for Franc falls, leading to an appreciation of US dollar and depreciation of Franc.
NOTE: As per Chegg answering guideline, first question is answered.
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