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19 - EM and 1 0 out of 1| points Purchasing power parity...

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Unformatted text preview: EM and: 1 0 out of ' 1|) points Purchasing power parity implies: r' inflation rates are equalized across countries in the long run. r the exchange rate equals the ditTerence in inflation rates in the two countries. r an absence of arbitrage opportunities for goods, net oftransportation costs, even in the short run. 9% r' a central bank choosing to fix its exchange rate must acceptthe inflation rate ofthe other country, at least in the long run. Hulfialecnoioe Section: Linking Exchange—Rate Policy with Domestic Monetary Policy award 2 0 out of 10 points Supposethatinitialiyt 5 euros exchange for $1 Inflation in both countries then stans. With U 5 Inflation being 1% and European inflation 3% Assuming purchasing power parity, afler one year, now manyeuros Will exchange for 51'? r' 1.47 G—xf' 153 p 1.45 (-152 Multilecnoioe Section Linking Exmange-Rate Poiicywnt'i Domestic Monetary Policy award: I) out of Capital market arbitrage means that: r a basket ofinvestment goods (physical capital] always obeys purchasing power parity. 0—» (' equally risky bonds have the same expected return (' interest rates can, and do, difler between two countries maintaining afixed exchange rate (* when two otherwise identical assets have diflerentyields, investors bid upthe price ofassetthatwas initially more expensive, thus driving down its yield. Mullinle Choice Section: Linking Exchange—Rate Policy with Domestic Monetary Policy ""iiEsome {n31 a British EHJFIEI cuEié'iii'zs'é'n'HtHatiH'e'Eemrai banks c credibly-keep ifi'é'ExEfiaH'g'e rate fixed. Suppose-that a'i'ii'ou buna'p'iiiFEnaE'e'a'i'u'Eziy'iiiii' be'v'ié'r'iii'si wag i'e'ét'i'zih'a that a u . bond dr'.':'é'&'£oué§r'5f'r§§25.uu v'Ji'ii be worth $24500 in oneyear. Assuming thatthe current price ofthe British bonddoes not change. arbitrage impliesthat the current price ofthe U 3 bond shouldbe (- $21025 °_, r 5223 97 (- $245.00 (- 524075 Humeclioioe Section: Linking ExchangerRate Poiicywm-i Domestic Monetary Policy aw and: 5_ flout of 1|) points Fixing the exchange rate means that the central bank gives up all ofthe following except: r the size ofits balance sheet. (- the abilityto choose an interest rate target. 9—» {- the mix ofassets on the balance sheet, given the size ofthe balance sheet. r the number ofunits ofits currencytrading for one unit ofthe other currency. MultiJIeClIoioe Section: Mechanics ofExchange-Rate Management award 6_ 00m .Df 10 ts Suppose the Fedsells Japanese government bonds. being paidWIth bank reserves lfthe transaction is unsterilizedthe domestic interest rate Will rise, the size ofthe Fed's balance sheeIWill fall . andthe dollarWill appreciate award: r Fixed exchange rates prowde protection against speculative attacks. (- Speculative attacks usually occurwhen a country‘s exchange rate floats r interest rates fall during a speculative attack. 9—» (- in a bank run, many agents try to simultaneously Withdrawfunds from a commercial bank. In a speculative attack, many agents try to withdraw foreign currencyfiom the central bank. HulfiJle Choice Section The Costs. Benefits. and Risks of Fixed Exdiange Rates El 9 F 9 El p Frees policymakers to focus on interest rate targets. 9% p Provides certaintyto international travelers. (- Frees policymakers to focus on inflation rate. (- Removes needto worry about available foreign reserves. HulfilleClloiDe Section: The Costs. Benefits. and Risks ofFixed Exchange Rates award: 9_ flout of ................. 1. I3PM"1S 1.f'ufhich ofthe following statements is true? r 1.i‘lfhen a country dollarizes, it reduces but does not eliminate the risk cfa speculative attack. 9% (- A countrythat dollarizes can be integrated into the worldtrade andfinancial system more easily. (- lfseveral ofPanama's neighborsjoin it in dollarizing, theywill effectively form a currency union. r As does the Fed, the central bank ofa ccuntrythat dollarizes serves as lender cflast rescrtfcr its banks. Multilin- Choice Section: Fixed Exchange-Rate Regimes award: 10- flioutof ................. 1 “P0ll1ts A regime ofthe kind instituted at Eiretton Woods is referredto as: r a currency board. a_}r amanagedpeg. r dollarization. r aficating rate regime. HultiJIe Choice Section: Fixed Exchange-Rate Regimes ...
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