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Tutorial 7 - Exchange Rate Regimes

Economics

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Ibrokhim Suvonov
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20 views

Tutorial 7 - Exchange Rate Regimes

Economics

Uploaded by

Ibrokhim Suvonov
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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Intermediate Macroeconomics 5ECON011C-n

Tutorial 7: Exchange Rate Regimes

1) In a fixed exchange rate regime, a reduction in the price level will


cause which of the following?
A) a real appreciation and a leftward shift in the aggregate demand
B) a real appreciation and no shift in the aggregate demand
C) a real depreciation and a rightward shift in the aggregate demand
D) a real depreciation and no shift in the aggregate demand
E) no change in the real exchange rate, and no change in aggregate
demand

2) Suppose foreign exchange markets anticipate a devaluation for


country A. Further assume that policy makers in country A will continue
to fix its nominal exchange rate. In order to peg the currency at its
original level, which of the following must occur?
A) increase the domestic interest rate
B) increase the domestic price level
C) convince trading partners to raise their interest rates
D) all of the above
E) none of the above

3) Suppose a country that has been pegging its currency is faced with a
situation where financial market participants now expect some future
devaluation. In such a situation, we would generally expect which of
the following to occur?
A) a reduction in the domestic interest rate
B) an announcement by the central bank that a large devaluation will
occur in the near future
C) reduction in demand for the country's currency
D) all of the above
E) none of the above
Intermediate Macroeconomics 5ECON011C-n

4) For this question, assume that exchange rates flexible and that the
exchange rate expected to occur in one year is not constant. Suppose
that individuals now expect that the domestic central bank will pursue
expansionary monetary policy in one year. This expected future
monetary expansion will cause which of the following to occur?
A) The current nominal exchange rate will decrease.
B) The current nominal exchange rate will increase.
C) The current nominal exchange rate will not change.
D) The effects on the current nominal exchange rate are ambiguous.

5) Which of the following is an advantage of a common currency in


Europe?
A) Each country could conduct its own, independent monetary policy.
B) Exchange rate uncertainty within the common currency area would
be eliminated.
C) Each country could conduct its own, independent fiscal policy.
D) all of the above
E) none of the above

6) Explain exchange rate crisis.

7) According to Mundell, countries to constitute an optimal currency


area need to satisfy one of the two conditions. Explain these conditions.
Intermediate Macroeconomics 5ECON011C-n

8) An exchange rate crisis occurs when the peg (the fixed exchange
rate) loses its credibility. Bond holders no longer believe that next
period’s exchange rate will be this period’s exchange rate. The
uncovered interest rate parity equation used is the approximation:
𝑒
∗
(𝐸𝑡+1 − 𝐸𝑡 )
𝑖𝑡 ≈ 𝑖𝑡 −
𝐸𝑡

𝑒
Period 𝑖𝑡 𝑖𝑡∗ 𝐸𝑡 𝐸𝑡+1
1 3 0.5 0.5
2 3 0.5 0.45
3 3 0.5 0.45
4 3 0.5 0.5
5 15% 3 0.5 0.4
6 3 0.4 0.4

a. Solve the uncovered interest rate parity condition for the value of
the domestic interest rate in period 1.
b. The crisis begins in period 2. Solve the uncovered interest rate
parity condition for the value of the domestic interest rate in
period 2.
c. The crisis continues in period 3. However, in period 4, the central
bank and government resolve the crisis. How does this occur?
d. Unfortunately, in period 5, the crisis returns bigger and deeper
than before. Has the central bank raised interest rates enough to
maintain uncovered interest rate parity? What are the
consequences for the level of foreign exchange reserves?
e. How is the crisis resolved in period 6? Does this have implications
for the future credibility of the central bank and the government?

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