Identify three factors that might shift the demand curve for foreign exchange to
ID: 1119554 • Letter: I
Question
Identify three factors that might shift the demand curve for foreign exchange to the right.
Increase imports
decrease imports
increase exports
decrease exports
increase local interest rates relative to foreign interest rates
decrease local interest rates relative to foreign interest rates
remittance inflows
remittance outflows
5b. What is the net effect on the balance of trade from each of the three factors identified in part 5a (i)
reduce net exports (trade deficit)
increase net exports (trade surplus)
increase/cause current account deficit
reduce/eliminate current account deficit
‘increase capital inflows
reduce capital inflows
increase capital outflows
reduce capital outflows
net impact on capital flows uncertain
5c. Which one of the three factors selected in 5a (i) might cause a simultaneous shift of the supply curve for foreign exchange to the left? Explain.
Explanation / Answer
a. The three factors shifting the demand curve for foreign exchange to the right are :
Increase imports : because as the imports in the domestic country increases, to make payment to the importers, the foreign currency would be demanded.
Decrease local interest rates relative to foreign : there would be capital inflows into the foreign country and capital outflow from the domestic. So higher demand for foreign currency by the investors.
Remittance outflow : the demand for the currency would increase where the remittances are inflowing.
b. Since there is an increased demand for foreign currency due to three factors listed above, so there would be a trade deficit due to reduced net exports as there are more imports.
Increased current account deficit as the foreign remittances are higher.
There are capital outflows due to lower interest rate domestically.
c. Higher interest rates would shift the money supply of the foreign to the left because there is an inverse relation between the supply od money and rate of interest.
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