The graph below shows the foreign exchange market between the United States and

Question

The graph below shows the foreign exchange market between the United States and Japan before and after an increase in the demand for Japanese goods by U.S. consumers 125-- 100 1,000 1,190 1,100 ,270 Quantity of dollars/period If the exchange rate was free-floating prior to the change in demand for Japanese goods, what was its value in yen per dollar? After the change in demand, assuming a free-floating exchange rate, what is the new exchange rate in yen per dollar? If the Japanese central bank wanted to keep the exchange rate fixed at its initial value, how many dollars would it have to buy? A. B. C.

Explanation / Answer

(A) Before change in demand, equilibrium was at intersection of D & S curves. At this point, exchange rate was 125 yens per dollar (with quantity of dollars = 1,100).

(B) After change in demand, equilibrium is at intersection of D & S' curves. At this point, exchange rate is 100 yens per dollar (with quantity of dollars = 1,190).

(C) When exchange rate is 125, quantity of dollars supplied = 1,270.

Number of dollar to buy = 1,270 - 1,190 = 80

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