Worksheet-5

1. Let the monthly demand for British pounds and the monthly supply of British pounds
be described by the following equations:
Demand for Pounds=10-2e
Supply of Pounds= 4+3e
Where the quantities are in millions of pounds, and e is the dollar per pound.
a. Find the equilibrium exchange rate.
b. Suppose the U.S. government intervenes in the foreign currency market and uses U.S.
dollars to buy 2 million pounds each month. What happens to the exchange rate? Why
might the U.S. government do this? What would be its possible impacts. Explain.
Also, draw diagrams in each case.

2. A US made mobile phone costs $4200, and a similar Japanese made mobile phone
484,000 yen. If nominal exchange rate is 220 yen per dollar, which mobile phone is the
better buy.

3. Suppose Thailand has a merchandise trade deficit and China has a merchandise trade
surplus. The two countries have a flexible exchange rate system; so the Chinese
yuan appreciates and the Thailand’s baht depreciates. However, soon after the
depreciation of the Thailand’s baht, Thailand’s trade deficit grows. Why this might
occur.

4. Which of the following events, ceteris paribus, cause the dollar to appreciate against
the euro or to depreciate. Give reasons.
a. Health experts discover that red wine, especially French and Italian red wine, lowers
cholesterol.
b. GDP in nations across Europe falls.
c. The U.S. experiences a higher inflation rate than Europe does.
d. The U.S. budget deficit rises.
Also, draw diagrams in each case.