Explain how foreign exchange rates are determined. How do changes in interest rates, inflation, productivity, and income affect exchange rates? What are the advantages and disadvantages of a weak versus a strong dollar for imports, exports, international and domestic markets?
Explain how foreign exchange rates are determined. Pg. 482
Exchange rates are determined by : Changes in a Country’s Income, Changes in a Country’s Prices, Changes in Interest Rates, and Changes in Trade Policy. How do changes in interest rates, inflation, productivity, and income affect exchange rates? Pg.483 Interest rate---Expansionary monetary policy pushes down the U.S. interest rate, which decreases the financial inflow into the United States, decreasing the demand for dollars, pushing down the value of the dollar, and decreasing the U.S. exchange rate. Contractionary monetary policy does the opposite. Income---As money supply rises, income expands; when money supply falls, income contracts. This effect on income provides another way in which the money supply affects the exchange rate. As the U.S. price level rises relative to foreign prices, U.S. exports become more expensive, and goods the United States imports become relatively cheaper, decreasing U.S. competitiveness. This increases demand for foreign currencies and decreases demand for dollars. Thus, via the price path, expansionary monetary policy pushes down the dollar’s value for the same reason that an expansion in income pushes it down. What are the advantages and disadvantages of a weak versus a strong dollar for imports, exports, international and domestic markets? Strengthening Dollar
• Consumer sees lower prices on foreign products/services, Lower prices on foreign products/ services help keep inflation low, U.S. consumers benefit when, they travel to foreign countries U.S. investors can purchase foreign stocks/bonds at “lower” prices Disadvantages
• U.S. firms find it harder to compete, in foreign...
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