ps4F09 - Econ 340 Fall 2009 Problem Set 4 Chapter 13...

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Econ 340, Fall 2009 Problem Set 4 Chapter 13: Questions 4-6, 8, 10, 13; 4. The theory of purchasing power parity states that exchange rates between any two currencies will adjust to reflect changes in the price levels of the two countries. If one country’s price level rises relative to another’s, its currency should depreciate (the other country’s currency should appreciate). This theory predicts that the value of the yen will fall 5% in terms of dollars. 5. In the long run, the fall in the demand for a country’s exports leads to a depreciation of its currency, but the higher tariffs lead to an appreciation. Therefore, the effect on the exchange rate is uncertain. 6. If one country becomes more productive than other countries, businesses in that country can lower the prices of domestic goods relative to foreign goods and still earn a profit. As a result, the demand for domestic gods rises, and the domestic currency tends to appreciate. Even though the Japanese price level rose relative to the American, the yen appreciated because the increase in Japanese productivity
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