Question 1

Suppose that a lobster in Nova Scotia costs $10 and the same type of lobster in New Brunswick costs $30. How could people make a profit in the situation?

Accepted Answer

The answer of Suppose that a lobster in Nova Scotia...

Question 2

Suppose the price of a standard pair of sport shoes is €65 in France and $90 in Canada, and the current exchange rate is 0.70 euro for one dollar. What is the purchasing-power parity exchange rate of the dollar?

Accepted Answer

The purchasing-power parity exchange rate is the rate at which two currencies should be exchanged so that the same amount of goods and services can be purchased in either country. In this case, the price of a standard pair of sport shoes is €65 in France and $90 in Canada. So, the purchasing-power parity exchange rate of the dollar is €65/$90 = 0.72 euro/dollar.

Question 3

What does the law of one price state?

Accepted Answer

The law of one price states that a good must sell at the same price at all locations. This means that there should not be any price differences for the same good in different markets or locations. Any such differences would be eliminated through arbitrage, which involves buying the good in the market where it is cheaper and selling it in the market where it is more expensive. Therefore, the law of one price is a fundamental concept in economics that helps to ensure that markets are efficient and prices are fair.

Question 4

Suppose that the exchange rate is 50 Bangladesh taka per Canadian dollar, and that a bushel of rice costs 200 taka in Bangladesh and $3 in Canada. Which statement is consistent with these facts?

Accepted Answer

The answer of Suppose that the exchange rate is 50...

Question 5

What does purchasing-power parity imply?

Accepted Answer

Purchasing-power parity (PPP) implies that in the absence of transportation and other transaction costs, identical goods should have the same price in different countries when prices are converted into a common currency. This concept is often illustrated with the example of a standard product, like a hamburger, to explain how PPP works across different countries.

Question 6

-Refer to Table 12-1. What countries in the table does purchasing-power parity hold for?

Accepted Answer

The answer of 
-Refer to Table 12-1. What countries in...

Question 7

Suppose that the dollar buys less cotton in Canada than in Egypt. How could traders make a profit?

Accepted Answer

Traders could buy cotton in Egypt where it is cheaper and sell it in Canada where it is more expensive, thus making a profit. This would increase demand and raise the price of cotton in Egypt.

Question 8

Suppose that the exchange rate is 10 Moroccan dirhams per Canadian dollar. Also suppose that you can buy a crate of oranges for 300 dirhams in the Moroccan capital of Rabat and can buy a similar crate of oranges in Ottawa for $35. Which statement is consistent with these facts?

Accepted Answer

To determine the real exchange rate, we need to compare the prices of goods in both countries using the exchange rate. In this case, we can convert the price of a crate of oranges in Canada from dollars to dirhams by multiplying $35 by 10, which equals 350 dirhams. This means that the crate of oranges is cheaper in Canada (350 dirhams) than it is in Morocco (300 dirhams). Therefore, arbitrageurs could buy oranges in Morocco for 300 dirhams, sell them in Canada for 350 dirhams, and profit from the price difference. This would increase demand for dirhams and decrease demand for Canadian dollars, causing the exchange rate to adjust until the price of oranges is equalized across both countries. Thus, the real exchange rate is greater than one, and arbitrageurs could profit by buying oranges in Morocco and selling them in Canada.

Question 9

The nominal exchange rate is about 3 Brazilian real per dollar. If a basket of goods in Canada costs $40, how many real must a basket of goods in Brazil cost for purchasing-power parity to hold?

Accepted Answer

For purchasing-power parity to hold, the cost of the basket of goods in Brazil in real should equal the cost of the basket in Canada in dollars multiplied by the exchange rate. Therefore, 40 dollars * 3 real/dollar = 120 real.

Question 10

If P = domestic prices, P* = foreign prices, and e is the nominal exchange rate, what is implied by purchasing-power parity?

Accepted Answer

Purchasing-power parity implies that the nominal exchange rate (e) should equal the ratio of foreign prices (P*) to domestic prices (P), meaning e = P*/P.

Question 11

Suppose that the dollar buys more coffee in Honduras than in Guatemala. How could traders make a profit?

Accepted Answer

BTraders could make a profit by buying coffee in Honduras, where it's cheaper, and selling it in Guatemala, where it's more expensive. This would tend to raise the price in Honduras due to increased demand and potentially raise the price in Guatemala due to increased supply.

Question 12

What happened after the introduction of the euro as the common currency of many European countries?

Accepted Answer

The introduction of the euro reduced the costs of trading within Europe as it eliminated the need for currency exchanges and reduced transaction costs. This led to an increase in international trade within Europe.

Question 13

According to the theory of purchasing-power parity, what must the nominal exchange rate between two countries reflect?

Accepted Answer

The theory of purchasing-power parity suggests that the nominal exchange rate between two countries should reflect the different price levels in those countries. This means that if Country A has a higher level of prices compared to Country B, then the exchange rate should adjust so that goods in both countries have the same relative prices to each other. This helps to equalize the purchasing power of the currencies in each country.

Question 14

What does purchasing-power parity explain?

Accepted Answer

Purchasing-power parity (PPP) explains exchange rates in the long run. It theorizes that in the long run, exchange rates between two countries will converge to the rate that equalizes the purchasing power of each currency. This means that a unit of currency in one country should have the same purchasing power as a unit of currency in another country.

Question 15

What does purchasing-power parity imply for the exchange rate?

Accepted Answer

Purchasing-power parity (PPP) implies that the real exchange rate is equal to one, meaning that a basket of goods should cost the same in two different countries when prices are converted into a common currency at the prevailing exchange rate. This concept does not directly relate to the nominal exchange rate being one, the real exchange rate equating to the nominal exchange rate, or the real exchange rate being the difference in inflation rates between two countries.

Question 16

-Refer to Table 12-1. What currency(ies) is(are) less valuable than predicted by the purchasing-power parity theory?

Accepted Answer

The boliviano is less valuable than predicted by the purchasing-power parity theory because its actual exchange rate is lower than its predicted exchange rate.

Question 17

How has the introduction of the euro affected arbitrage?

Accepted Answer

With the introduction of the euro, there is one common currency throughout Europe, which means there are no longer exchange-rate differences to exploit in arbitrage opportunities. This has eliminated the possibility of arbitrage based on exchange-rate differences within Europe. However, other types of arbitrage opportunities may still exist.

Question 18

How do nominal exchange rates change over time?

Accepted Answer

Nominal exchange rates can vary substantially over time due to changes in factors such as inflation rates, interest rates, economic growth, and political factors. While there may be periods of stability, overall there tends to be significant fluctuations in nominal exchange rates.

Question 19

What terms refers to the process of taking advantage of different prices for a good in different markets?

Accepted Answer

The process of taking advantage of different prices for a good in different markets is called arbitrage. This involves buying the good in the market where it is priced lower and selling it in the market where it is priced higher, thus making a profit from the price difference. Currency exchange and capitalism are related to economics, but not specifically to this process. The law of one price is a concept that suggests that identical goods should have the same price in different markets, but it is not directly related to the process of arbitrage.

Question 20

Suppose the nominal exchange rate between the yen and the U.S. dollar is 195 yen per U.S. dollar, and that the nominal exchange rate between the Canadian dollar and the U.S. dollar is 1.30 Canadian dollars per U.S. dollar. How many yen would it take to buy a Canadian dollar?

Accepted Answer

The answer of Suppose the nominal exchange rate between the...

Quiz 12: Open-Economy Macroeconomics: Basic Concepts