Managing in a Global Economy: Demystifying International Macroeconomics, 1st Edition Graduate (S) Business Administration 503

FUNDAMENTALS OF BUSINESS ECONOMICS
Summer 2011
 
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Monetary Policy and Exchange Rates

The homework should be written on 8 1/2 by 11 paper. When calculations are required, you must show all work. The homework is due at the beginning of class on Monday, July 18.  Please make a copy of your homework before you hand it in.

1.  Suppose the reserve requirement in the U.S. is 0.20.

a. Calculate the checking deposit multiplier.

b. Suppose the Fed wanted to decrease the money supply by engaging in $400 million in open market operations. What would it do? Using t-accounts for the Fed and three other banks, show how the money supply would be affected in this situation.

c.  Using the multiplier calculated in (a), how would the money supply ultimately be affected by this action?

d.  Suppose the Fed wanted to ultimately increase the money supply by $5 billion.  What should it do in terms of open market operations, using the multiplier calculated in (a).

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2.  Consider the following data involving trade between the U.S. and Mexico:

Product Domestic Price July 6, 2010: 
US$1 = 12.93 Pesos		 July 6, 2011: 
US$1 = 11.64 Pesos
U.S. exports industrial machinery $100,000 (a) (c)
Mexico exports agricultural products 1,000 Pesos (b) (d)

a - d.  Fill in the values in the table above.

e.  Explain what would happen to U.S. exports of industrial machinery to Mexico and U.S. imports of agricultural products from Mexico as a result of the exchange rate change from 2010 to 2011.

3.  Suppose the exchange rate for the U.S. dollar relative to the Euro is 0.7€ / US$1.  If the price of a bundle of goods in the Euro Zone is 125€ and the price of the same bundle in the U.S. is US$200, what is the real exchange rate?  What arbitrage opportunity exists in this situation?

4.  The nominal exchange rate between the U.S. dollar and the Japanese Yen fell by 12.9 percent in 2010 (¥ / $).  Inflation in the U.S. was 1.6 percent, while inflation in Japan was -0.7 percent (deflation).  What is the percentage change in the real exchange rate in this case?