ECO 302: Week 10 Homework
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17.2. If a country
runs a budget deficit must it also run a current-account deficit?
How does the linkage
between the two deficits depend on the relation between budget deficits and
national saving?
17.3. A technology
shock for a single country
Consider a temporary
rise in the technology level, A, in the home country.
Assume that no change
occurs in the terms of trade.
17.4. Taxes and the
current-account balance
Discuss the effects
on a country’s current-account balance from the following changes in tax rates:
17.5. A change in the terms of trade
Suppose that the home
country is Brazil, which produces a lot of coffee for export. We considered in
the text a change in the terms of trade that stemmed from a disturbance in the
rest of the world. Suppose, instead, that a temporary shock at home—say a
failure of Brazil’s coffee crop—raises the relative price of coffee. In this
case, how does the disturbance affect Brazil’s current-account balance?
Chapter 18, Review
Question 4
Does the central bank
have discretion over the quantity of domestic money in a fixed exchange rate
system? Show how an attempt to carry out an independent monetary policy can
lead to devaluation or revaluation. Why might the attempt lead to trade
restrictions?
18.7. A shift in the
demand for money
Consider an increase
in the real demand for money, Md/P, in the home country.
18.9. President
Nixon’s departure from the gold standard in 1971
Under the Bretton
Woods System, the United States pegged the price of gold at $35 per ounce.
a. Why did trouble about the gold price arise
in 1971?
b. Was Nixon right in eliminating the U.S.
commitment to buy and sell gold from foreign official institutions at a fixed
price? What other alternatives were there? For example, what was the classical
prescription of the gold standard? The French suggested a doubling in the price
of gold. Would that change have helped?
18.10. Shipping gold
under the gold standard
Suppose (using
unrealistic numbers) that the price of gold is $5 per ounce in New York and ₤1
per ounce in London. Assume initially that gold can be shipped between New York
and London at zero cost.
a. Assume that the dollar-pound exchange rate
is $6 per pound. If a person starts with $1000 in New York, what can the person
do to make a profit?
If
the cost of shipping gold between New York and London is 1% of the amount
shipped, how high does the exchange rate have to rise above $5 per pound to
make this action profitable?
b. Go through the
same exercise when the exchange rate is $4 per pound, from the perspective of
someone who starts with ₤200 in London.
b. The results determine a range of exchange
rates around $5 per pound for which it is unprofitable to ship gold in either
direction between New York and London. The upper and lower limits of this range
are called gold points. If the exchange rate goes beyond these points, it
becomes profitable to ship an unlimited amount of gold. Can you show that the
potential to ship gold guarantees that the exchange rate will remain within the
gold points?
18.x. Futures
contracts on foreign exchange
If a person buys a
one-month futures contract on the euro, he or she agrees to purchase euros next
month at a dollar exchange rate set today. The buyer of this contract goes long
on the euro and does well if the euro appreciate (more than the amount expected)
over the month. Similarly, the seller of a futures contract agrees to sell
euros next month at a dollar exchange
rate set today. The seller goes short on the euro and does well if the euro
depreciates (more than expected) over the month. Consider a euro bond with a maturity of one
month. This bond sells for a specific number of euros today and will pay out a
stated number of euros in one month. How can a person use the currency futures
market to guarantee the dollar rate of return from buying the euro bond and
holding it for one month?
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