chapter 14 answers - TUTORIAL FOR CHAPTER 14 THE...

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TUTORIAL FOR CHAPTER 14: THE INTERNATIONAL FINANCIAL SYSTEM 1. If the Federal Reserve buys dollars in the foreign exchange market but conducts an offsetting open market operation to sterilize the intervention, what will be the impact on international reserves, the money supply, and the exchange rate? The purchase of dollars involves a sale of foreign assets which means that international reserves fall. However, the offsetting open market purchase means that the monetary base and the money supply will remain unchanged. If dollar and foreign deposits are perfect substitutes, then there is no effect on the exchange rate because neither the RET F or RET D schedules shift since there is no change in the money supply. 2. If the Federal Reserve buys dollars in the foreign exchange market but does not sterilize the intervention, what will be the impact on international reserves, the money supply, and the exchange rate? The purchase of dollars involves a sale of foreign assets, which means that international reserves fall and the monetary base falls. The resulting fall in the money supply causes interest rates to rise and R D to shift to the right while it lowers the future price level, thereby raising the future expected exchange rate, causing R F to shift to the left. The result is a rise in the exchange rate. However, in the long run, the R D curve returns to its original position, and so there is overshooting. 3. For each of the following, identify in which part of the balance-of-payments account it appears (current account, capital account, or method of financing) and whether it is a receipt or a payment. a) A British subject’s purchase of a share of Johnson & Johnson stock b) An American’s purchase of an airline ticket from Air France c) The Swiss government’s purchase of U.S. Treasury bills d) A Japanese’s purchase of California oranges e) $50 million of foreign aid to Honduras f) A loan by an American bank to Mexico g) An American bank’s borrowing of Eurodollars (a) A receipt in the capital account; (b)a payment in the current account; (c)a receipt in the method of financing; (d)a receipt in the current account; (e)a payment in the current account; (f) a payment in the capital account; and (g)a receipt in the capital account.
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