Balance of Payments

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MIDTERM REVIEW QUESTIONS NOVEMBER 2010:
Zahlungsbilanz und Devisenmarkt

(1) What accounts for most of the activity in the foreign exchange market? (a) Inter-bank trading
(b) Government transfers
(c) Sale of good and services
(d) Government purchase of assets
(e) Foreign imports
Answer: A
(2) A country’s current account
(a) balance equals the change in its net foreign wealth.
(b) balance equals the change in its foreign wealth.
(c) surplus equals the change in its foreign wealth.
(d) deficit equals the change in its foreign wealth.
(e) None of the above.
Answer: A
(3) The aggregate money demand depends on
(a) The interest rate
(b) The price level
(c) Real national income
(d) All of the above.
(e) Only (a) and (c)
Answer: D
(4) The CA (current account) is equal to
(a)
(b)
(c)
(d)
(e)

Y – ( C – I + G)
Y + ( C + I + G)
Y – ( C + I + G)
Y – ( C + I – G)
Y – (C + I + G) = –CA, (i.e., minus the CA)

Answer: C
(5) The expected real interest rate (re) in terms of the nominal interest rate (R) and the expected inflation rate (πe) is given by
(a) re = πe + R
(b) re = 2πe + R2
(c) re = πe + R2
(d) re = R – πe
(e) re = R2 – πe
Answer: D

(6) Suppose that the one-year forward price of euros in terms of dollars is equal to $1.113 per euro. Further, assume that the spot exchange rate is $1.05 per euro, and the interest rate on dollar deposits is 10 percent and on euro it is 4 percent. Under these assumptions, (a) Covered interest parity does hold.

(b) Covered interest parity does not hold.
(c) It is hard to tell whether covered interest parity does or does not hold. (d) Not enough information is given to answer the question.
(e) None of the above.
Answer: B
(7) If the dollar interest rate is 10 percent and the euro interest rate is 6 percent, then (a) An investor should invest only in dollars.
(b) An investor should invest only in euros.
(c) An investor should be indifferent between dollars and euros. (d) It is impossible to tell given the information.
(e) All of the above.
Answer: D
(8) Interest rate differences between countries depend on
(a) differences in expected inflation, but not on expected changes in the real exchange rate (b) differences in expected changes in the real exchange rate, but not on expected inflation (c) neither differences in expected inflation, nor on expected changes in the real exchange rate (d) differences in expected inflation and nothing else

(e) differences in expected inflation, and on expected changes in the real exchange rate Answer: E
(9) An increase in a country’s money supply causes
(a) its currency to appreciate in the foreign exchange market while a reduction in the money supply causes its currency to depreciate.
(b) its currency to depreciate in the foreign exchange market while a reduction in the money supply causes its currency to appreciate.
(c) no effect on the values of it currency in international markets. (d) its currency to depreciate in the foreign exchange market while a reduction in the money supply causes its currency to further depreciate.

(e) None of the above.
Answer: B
(10) Covered interest parity says that
(a) Interest rates are equal in all currencies.
(b) rates of return on domestic currency deposits and “covered” foreign currency deposits using the forward exchange rate are the same
(c) exchange rate changes are based on parity conditions set by central banks (d) short term exchange rates are a function of expectations about future interest rates. Answer: B

(11) In the short-run, a temporary increase in the money supply (a) Shifts the AA curve to the right, increases output and depreciates the currency (b) Shifts the AA curve to the left, increases output and depreciates the currency (c) Shifts the AA curve to the left, decreases output and depreciates the currency (d) Shifts the AA curve to the left, increases output and appreciates the currency (e) Shifts the AA curve to the right, increases output and...
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