Study Questions

Mid-term Exam in ECON 243

 

1. Explain the structure of the balance of payments accounts. In other words, what kinds of transactions are recorded in:
1. The current account?
2. The capital account?
3. The official reserves transactions? (What are official reserves?)
   and
4. What is the source of the statistical discrepancy?
   
   
2. Explain:
1. Current account balance
2. “Trade” balance
3. Capital account balance
4. Balance of payments equilibrium (official settlements balance)
   
   
3. Relate the current account surplus to net foreign investment and show the relationship between the current account and GDP. What is absorption?
   
   
4. Explain and discuss the conditions necessary for a balance of payments equilibrium, surplus, and deficit, and explain the impact on the supply and demand for the nation’s currency.
   
   
5. What is the international investment position and what is its relationship to the balance of payments? What do we mean when we say a nation is a lender or borrower? What do we mean when we say a nation is a debtor or creditor?
   
   
6. Define/Explain the following terms:
1. foreign exchange
2. foreign exchange market
3. retail market
4. wholesale market
5. spot exchange rate
6. forward exchange rate
   
   
7. What causes the supply and demand for currencies? What factors result in demand shifts for currencies? Explain.
   
   
8. Explain the different kinds of exchange rate systems. In doing so, be sure to explain:
1. flexible or floating exchange rates
2. fixed exchange rates
3. intervention
4. appreciation (revaluation)
5. depreciation (devaluation)
   
   
9. What are the advantages and disadvantages of fixed exchange rates? Of a flexible exchange rates?
   
   
10. What are appreciation (revaluation) and depreciation (devaluation) of a currency, and how do each of these affect import and export activity?
    
    
11. Explain hedging, speculation, forward exchange contracts, and arbitrage as they specifically relate to the foreign exchange market. Finally, what are covered and uncovered international investments?
    
    
12. Explain forward premiums, covered interest arbitrage, and covered interest parity. What is the evidence for this in the real world?
    
    
13. Explain forward premiums, expected uncovered interest differential, and uncovered interest parity? What is the evidence for this in the real world?
    
    
14. What are currency futures and how do they differ from forwards? How do they differ in their use as hedges?
    
    
15. Explain the Law of One Price (LOOP) in the international context. How does arbitrage tend to make it work for some goods? What factors cause deviations from LOOP in international trade and finance?
    
    
16. Explain Purchasing Power Parity (PPP). Explain absolute and relative PPP. Explain how well PPP predicts exchange rates in terms of different classes of goods, and explain differences across classes of goods.
    
    
17. Extend the PPP using the Quantity Theory of Money. Explain the effect on exchange rates of relative differences in foreign and domestic money supply, output, and prices. What policy prescriptions follow from this?
    
    
18. What are the two sources of gain/loss from an international investment? In the asset approach, what four variables are linked together by the theory of uncovered interest parity?
    
    
19. Explain the short-term effects on the current spot exchange rate of changes in:
1. Domestic interest rates
2. Foreign interest rates
3. Expected future spot exchange rates
   
   
20. Explain overshooting. What is the key factor in causing overshooting as a response to a money supply change?
    
    
21. What are the primary reasons for the government to intervene in the foreign exchange markets? What are the principal ways in which they intervene?
    
    
22. What are exchange controls (including capital controls)? Are they used in the world today? Give examples.
    
    
23. Why would a monetary authority intervene under a flexible exchange rate system? Why would they want the exchange rate higher? Lower? What other reason would they have for intervening?
    
    
24. Explain how a fixed exchange rate system works. In particular, explain the difference between a fixed, adjustable peg, and crawling peg system, and discuss par values and trading bands. Generally speaking, how does the monetary authority keep the rate fixed?
    
    
25. What are the four basic ways of defending the fixed rate? Where does the monetary authority get the currency to engage the market? Explain. What are sterilized and unsterilized intervention?
    
    
26. What factors moved to world toward a gold standard (instead of silver or something else)? Under fixed exchange rates and balance of payments imbalances, why did this not result in more gold being shipped between countries than was shipped?
    
    
27. Describe the Bretton Woods Agreement and the factors that motivated it.
    
    
28. Why did Bretton Woods fail? What replaced it? What is the current system?