Practice Questions 1.3, 1.4 - 1 Practice Questions for...

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1 Practice Questions for Topics 1.3 and 1.4 I. Suggested MyEconLab questions: Topic 1.3 Chapter 14 Section 14.1: Chapter Problem 1; Chapter Problem 2 Section 14.3: Chapter Problem 4c Section 14.4: Chapter Problem 7 Section 14.5: Chapter Problem 6; Chapter Problem 14 Topic 1.4 Chapter 15 Section 15.2: Exercise 2.3 Section 15.5: Chapter Problem 4; Exercise 5.1 Section 15.6: Exercise 6.1 Section 15.7: Chapter Problem 10 II. Other questions: NOTE: Answers to all of the following questions follow on pages 6-9. 1. (Topic 1.3) The table below contains hypothetical figures in each of 2 years for 3 variables: 1) the exchange rate between the Canadian dollar and the U.S. dollar ( E C $/US$ ; 2) an index ( P ) of the average price (in Canadian $) of Canadian goods and services; and 3) an index ( P *) of the average price (in US$) of U.S.-produced goods and services. Year E C $/US$ P (Canadian) P * (U.S.) 1 1.01 100 100 2 0.98 102.9 107.1 i) Between Year 1 and Year 2 has the Canadian dollar appreciated or depreciated in terms of the U.S. dollar? Has the U.S. dollar appreciated or depreciated in terms of the Canadian dollar? ii) Between Year 1 and Year 2 how did the relative price of U.S.- produced goods and services change ? What caused it to change in that particular direction?
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2 2. (Topic 1.3) Below are 5 sets (A, B, C, D, E) of hypothetical values for 3 variables: 1) the annual rate of interest on a euro deposit expressed in decimal form ( R ); 2) the current spot exchange rate between the C$ and the euro ( E $/€ ); 3) the exchange rate between the C$ and euro which is expected to prevail in one year’s time ( E e $/€ ). Set R E $/€ E e $/€ Expected dollar rate of return on a euro deposit A 0.0398 1.35 1.33 B 0.0105 1.38 1.40 C 0.0100 1.36 1.36 D 0.0152 1.35 1.37 E 0.0100 1.32 1.36 i) For each of the 5 sets of values above calculate the corresponding expected annual rate of return (measured in $) on a euro deposit and enter those values (in decimal form, rounded to 3 decimal places) in the column on the extreme right of the table above. ii) Which two of the above sets of values lie on the same downward-sloping curve (of the type shown in your notes and textbook figures, 14-3, 14-4 etc) which relates the expected dollar rate of return on a euro deposit to the exchange rate? Explain the basis of your answer. iii) Now suppose that the rate of return on a Canadian dollar deposit ( R $ ) equals 0.025 (2.5%). Using the figures you have calculated in answer to part i), which of the above sets of values is/are consistent with interest rate parity? Why? iv) In the space below draw a (rough) diagram similar to those drawn in your lecture notes and in chapter 14, to identify the position(s) of interest parity which you have identified in answer to part iii).
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This note was uploaded on 02/02/2012 for the course ECONOMICS 239 taught by Professor Wu during the Winter '11 term at Wilfred Laurier University .

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Practice Questions 1.3, 1.4 - 1 Practice Questions for...

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