Exam 14: Exchange-Rate Adjustments and the Balance of Payments

By decreasing the relative production costs of U.S. companies, a dollar appreciation tends to lower U.S. export prices in foreign-currency terms, which induces an increase in the amount of U.S. goods exported abroad.

The purpose of currency devaluation is to cause a depreciation in a currency's exchange value.

From 1985 to 1988 the U.S. dollar depreciated over 50 percent against the yen, yet Japanese export prices to Americans did not come down the full extent of the dollar depreciation. This is best explained by:

According to the Marshall-Lerner condition, currency depreciation would have a positive effect on a country's trade balance if the elasticity of demand for its exports plus the elasticity of demand for its imports equals:

According to the absorption approach, an increase in domestic expenditures must occur for currency devaluation to promote balance of trade equilibrium.

The Marshall-Lerner condition illustrates

Suppose the U.S. price elasticity of demand for imports equals 1.2 and the foreign elasticity of demand for U.S. exports equals 1.5. According to the Marshall-Lerner condition, an appreciation of the dollar's exchange value would worsen the U.S. balance of trade.

Empirical research suggests that most countries' price elasticities of demand for imports and exports are very inelastic, suggesting that currency depreciation would result in a worsening of a country's balance of trade.

How do demand elasticities influence a country's trade position when exchange rates change?

Assume the Canadian demand elasticity for imports equals 1.2, while the foreign demand elasticity for Canadian exports equals 1.8. Responding to a trade deficit, suppose the Canadian dollar depreciates by 10 percent. For Canada, the depreciation would lead to a(n):

According to the Marshall-Lerner condition, a currency depreciation is least likely to lead to an improvement in the home country's trade balance when:

Complete currency pass-through arises when a 10 percent depreciation in the value of the dollar causes U.S.:

The lag that occurs between changes in relative prices and the quantities of goods traded is the

Currency devaluation is initiated by governmental policy rather than the free-market forces of supply and demand.

The absorption approach to currency depreciation is represented by one of the following equations:

The absorption approach suggests that one of the following causes a trade deficit to decrease following currency depreciation:

Assume that Ford Motor Company obtains all of its inputs in the United States and all of its costs are denominated in dollars. An appreciation of the dollar's exchange value:

Suppose the exchange value of the franc rises against the currencies of Switzerland's major trading partners. To protect themselves from decreases in foreign sales caused by the mark's appreciation, Swiss companies could shift production to countries whose currencies had depreciated against the mark.

According to the Marshall-Lerner condition, currency depreciation has no effect on a country's trade balance if the elasticity of demand for its exports plus the elasticity of demand for its imports equals:

The extent to which changing currency values result in changing prices of imports and exports is known as the J-curve effect.