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MacroEcon Chapter 17

MacroEcon Chapter 17 - Chapter 17 Exchange Rates and...

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Chapter 17: Exchange Rates and Macroeconomic Policy Foreign exchange market: a market in which one country’s currency is traded for that of another I. Foreign Exchange Money Markets and Exchange Rates National currencies are exchanged for another in banks, hotels stores, etc One basic approach: treat each pair of currencies as a separate market Exchange rate: amount of one country’s currency that is traded for one unit of another country’s currency A) Dollars Per Pound or Pounders per Dollar? In this chapter, define exchange rate as: “dollars per unit of foreign currency: exchange rate is just another price The exchange rate is the price of foreign currency in dollars   B) The Demand for British Pounds Who is demanding them? Anyone who has dollars and wants to exchange them for ponds But the most important buyers: American households and businesses Want to buy British goods: acquire pounds In our model of the market for pounds we assume that American households and businesses are the only buyers. 2 reasons as to why Americans want to buy pounds: buy goods and services from British firms buy British assets (stocks, bonds, real estate)
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I) The Demand for Pounds Curve demand curve for foreign currency: curve indicating the quantity of a specific foreign currency that Americans will want to buy, during a given period, at each different exchange rate. Curve slopes downward: lower the exchange rate, the greater the quantity of pounds demanded (Americans want to buy more) Less expensive to buy British goods We move rightward along the curve Price of pounds decrease-> British goods cheaper to US-> Americans buy more-> Quantity of pounds demanded II) Shifts in the Demand Curve for Pounds Curve change in exchange rate moves us along the demand for pounds curve SHIFTS THE LINE: US Real GDP Real GDP and real income in US rise- Americans buy more Rightward shift Relative Price Level: US price level increases 8% and Britain by 5% US price rises relative to Britain Shift rightward Americans Taste for British Goods Americans want to buy more Britain goods Shift rightward Relative Interest Rates One country’s interest rate is high relative to that of another country, the first country’s assets have higher rates
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