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Chapter_9_An_Introduction_to_Internation

# How does this change affect the relative price of

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How does this change affect the relative price of assets?

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Why Exchange Rates Matter Example: Part 1 September 2002, \$1.00 per € February 2006, \$1.25 per € Compare \$100 pair of leather boots made in U.S. with €100 pair of leather boots made in Italy. Suppose these prices are fixed in local currencies. In 2002 how do their prices compare in dollars? \$100 for both In 2006? The Italian boots now cost \$125, or 1.25 times as much as the American boots. The relative price of European goods to American goods increases when the dollar-euro exchange rate increases.
Why Exchange Rates Matter Example: Part 2 September 2002, \$1.00 per € February 2006, \$1.25 per € How does this change affect the relative price of assets? You cannot directly deposit U.S. dollars into a foreign bank, so you convert the \$1000 into euros. In September 2002, you receive €1000 to deposit into your German checking account. In February 2006, you still have €1000, but it will be worth \$1,250 because each euro is now worth \$1.25. Conversely, a German who had placed €1000 in a U.S. account and waited would have seen her \$1000 fall in value from €1000 to €800. Thus, an increase in the dollar-euro exchange rate leads to an increase in wealth for Americans who own Eurozone assets, and a decrease in wealth for Eurozone residents who own American assets.

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Objectives 2. Globalization of Finance: Debts and Deficits Understand the relationship between expenditure, income, and the current account. Identify net debtors and net creditors. Analyze the relationship between international financial transactions, the current account, and external wealth. Understand the factors leading to sovereign government default. Define country risk and discuss how it relates to default and international financial transactions.
U.S. Income, Expenditure, and Current Account

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We look at the difference between national income and expenditure : the current account . Expenditure > Income → Deficit Expenditure < Income → Surplus Imbalances are associated with all the different kinds of international transactions, which are recorded in the balance of payments accounts. These are related to the national income accounts for income and expenditure. It is not possible for all countries to run deficits at the same time. Globally, deficits and surpluses balance. In recent years there have been some large surplus
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