Assume that American rice sells for $100 per bushel Japanese rice sells for 1600

Question

Assume that American rice sells for $100 per bushel Japanese rice sells for 1600 yen per bushel and the nominal exhange rate is 80 yen per dollar
a-Explian how you could make a profit from this situation what would be your profit per bushel of rice ? If other people exploit the same opportunity, what would happen to the price of rice in Japan and the price of rice in the US?
b- Suppose that the rice is the only commodity in the world. What would happen to the real exchange rate between the US and Japan?

Explanation / Answer

(a) When American rice sells for $100 per bushel and Japanese rice sells for 16,000 yen per bushel and the nominal exchange rate is 80 yen per dollar, you could make a profit on this situation by buying rice in America, and selling it in Japan.Rice can be sold for 16,000 yen per bushel / 80 yen per dollar =$200 per bushel in Japan.Assuming egligible transportation costs, buying rice in American and selling rice in Japan yields a profit of $200 - $100 = $100 per bushel.With transportation costs of T, the profit would be $200 - $100 – T = $100 – T per bushel.This difference in price across countries is what is called anarbitrage opportunity. If other people exploit the same opportunity, the demand for rice in the United States would rise (due to people demanding rice to export to Japan), while the supply of rice in Japan would rise (due to importers selling their imported rice).This would lead to the price in the United States rising and the price in Japan falling.The arbitrage profit opportunity would continue until the price rises enough in Washington Market for CA wine Export Supply Curve (Supply of exported wine from CA) Import Demand Curve (WA’s demand for CA wine) P Q New Export Supply Curve Price paid by Wash Consumers with tariff Price without tariff Price received by CA producers (with tariff) Shaded area = government revenue DWL q1 q0 Washington Market for CA wine Export Supply Curve (Supply of exported wine from CA) Import Demand Curve (WA’s demand for CA wine) P Q New Export Supply Curve Price paid by Wash Consumers with tariff Price without tariff Price received by CA producers (with tariff) Shaded area = government revenue DWL q1 q0 the United States and falls enough in Japan that no more additional profit can be made.Assuming negligible transportation costs, this would imply that the price in Japan would be exactly equal to the price in the United States.If there are transportation costs of T, the price in the United States would be the price in Japan minus the transportation costs: PUS = PJap – T (b) If rice is the only commodity in the world, then the real exchange rate between the United States and Japan would fall.That is, the yen will appreciate in value relative to the dollar.This is because the exchange rate is greatly affected by the price of goods and services in one country compared to another.In this case, the price of rice is falling in Japan relative to the United States.So, since rice is the only commodity, the average price of goods and services is decreasing in Japan relative to the United States.This means that relative to before the trade, the demand for Japanese goods (in this case rice) in the United States is greater than is was before.So, the yen will appreciate in value.

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