PROBLEM SET 6

Question WEEKLY ASSIGNMENT: PROBLEM SET 6 1. Both Boeing and Airbus price their aircraft in US dollars. ANA Japan?s largest airline has ordered $16 billion in new aircraft split between Airbus and Boeing. Suppose the price for one Boeing model is $150 million. What is the current price for this aircraft in Japanese yen? Show the computation (hint: see Exhibit 14-2). There are many websites that show exchange rates but here is one: http://www.usforex.com. 2. Just as with the price of a good the price or exchange rate of a currency is determined by supply and demand. However rather than using a traditional supply and demand analysis as shown in Marthinsen currency traders often consider whether foreign funds will flow into or out of a country as a result of a particular economic circumstance. If foreigners wish to make domestic purchases or investments foreign currency must first be exchanged for the domestic currency. Thus foreign funds flowing into a country increase the demand for the domestic currency and it appreciates. Funds flowing out reverse this process leading to depreciation of the domestic currency. In the table place an X to indicate whether each economic condition will cause foreign funds to flow in or out of the country and whether the domestic currency will appreciate or depreciate. Domestic circumstance Fundsflow in Fundsflow out Currencyappreciates CurrencydepreciatesReal interest rates are higher than in other countries Risk of civil war Business taxes are raised above world average XExpected stock market returns are better than elsewhere Inflation increases A large deposit of rare earth minerals is discovered Rapidly growing manufacturing sector imports more foreign raw materials 3. Explain the historical exchange rates of the Argentine Peso to the US dollar using information from the 2 charts below. Use care to correctly interpret the charts. Original data is available though not needed from the websites listed below and many other internet sources. USforex – http://www.usforex.com/forex-tools/historical-rate-tools/yearly-average-ratesTrading Economics – http://www.tradingeconomics.com/argentina/inflation-cpi 4. Suppose China wishes to peg the Chinese Yuan to the US dollar at $0.20/Yuan. But because of foreign funds flowing into China the Yuan appreciates. How can the People?s Bank of China (China?s central bank) maintain the pegged exchange rate? Is the Bank of China limited by its foreign exchange holdings in maintaining the peg?5. The Venezuelan bolivar has been steadily depreciating against the US dollar but the government wishes to stop the depreciation. What must the Banco Central de Venezuela do to stabilize the exchange rate? Is there a limit to how much it can intervene in the foreign exchange markets? 6. The US Fed has increased the money supply through massive open market purchases of financial securities. a. In the graph show the shift in the supply or demand curve for US dollars and the effect on the exchange rate. b. Does the US dollar appreciate or depreciate relative to other currencies? c. Will this new exchange rate make US exports more or less expensive for foreign buyers? d. Recall that GDP = C + I + G + NE. If all other factors are unchanged (ceteris paribus) explain the predicted effect on US GDP?

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