Practice Questions for Econ 3171 If a country has a current accounts deficit, wh
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Question
Practice Questions for Econ 3171
If a country has a current accounts deficit, why must it also be a debtor nation?
How have the recent US Government budget deficits helped contribute to the persistent current account deficits of the United Stated in the past 30-40 years?
We mentioned in class that every international transaction is actually TWO transactions. Explain why.
Why must the Current Account and the Financial and Capital account be balanced?
In determining what the equilibrium exchange rate is, why is interest rate parity more likely to hold than purchasing power parity?
Recall the formula for interest rate parity in determining exchange rates. Why do we have to take into account the expected change in future exchange rates?
In the long run, if the United States has an inflation rate of 10%, what additional information would you need to determine what would happen to the Dollar/Euro nominal exchange rate? Why?
Explain why we do not see perfect purchasing power parity hold in the real world?
What is the difference between absolute and relative PPP? Which is most likely to mirror what we see in the real world?
If the dollar appreciates in REAL terms, what would we expect to happen to the Current Account? Why?
Explain the difference between the nominal exchange rate and the real exchange rate. Could you have a situation in which the dollar depreciates in nominal terms but appreciates in real terms? Explain how.
If Absolute Purchasing Power Parity were to hold, what would my real exchange rate be?
All else equal, if the economy of the Unites States grows, what would we expect to happen to the real exchange rate?
What type of country would be more likely to choose a fixed exchange rate regime over a floating? Why?
If I have a fixed exchange rate regime, and my currency becomes overvalued, what should the action of my central bank be? Why?
What is the price-specie-flow mechanism? How did it apply to the Gold Standard?
How is the Gold Standard separate from the Bretton Woods System
What benefits are associated with being the International Reserve Currency?
During the late 1800s the United States was on a “de facto” gold standard, but the global supply of gold was not growing as fast as the global economy. This led to the real value of gold rising. What impact would this have on the US price level? Why?
Why did the gold standard help contribute to the great depression?
Why would using an anchor currency to fix your exchange rate be preferred to and anchor commodity, such as gold? Why not?
How do fixed exchange rate regimes help to facilitate trade?
Why is it “easier” to correct an undervalued currency than an overvalued currency?
Can a country’s currency be overvalued for a long period of time? Why not?
How did persistent inflation in the United States in the late 1960s and early 1970s contribute to the collapse of the Bretton Woods System and the US leaving the gold standard?
Explanation / Answer
Question 1
When a country has a current account deficit then this implies that imports of goods and services by country exceeds the exports of goods and services by the country.
In other words, payments to be made by the country to ROW exceeds the payment to be received by the country from ROW.
In order to bridge the gap, country would resort to borrowing from ROW which will result in capital account surplus.
However, these borrowings to support current account deficit will turn the nation or country into a debtor nation.
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