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Econ 306
International Economics
Assistant Prof. Alper Duman
20.03.2008
First Midterm Exam
Time :75 minutes
Part 1: Multiple Choice Questions (4 points each)
1. Which one of the following items would be a “debit” in a country’s balance-of-payments account?
a. exports of merchandise
b. an increase in a domestic citizen’s bank account in a foreign bank
c. increased holdings of domestic bonds by foreigners
d. exports of services
2. If a country has a current account deficit, then the country must also have
a. a merchandise trade deficit.
b. a financial or capital account surplus.
c. a financial or capital account deficit.
d. an increase in its net international investment position.
3. Suppose that, during 2004, country A had exports of goods of $50, imports of goods of $60,
exports of services plus investment income receipts from abroad of $36, and imports of
services plus the sending of payments of investment income abroad of $30. In addition,
during 2004, country A made $15 of unilateral transfers abroad and received no unilateral
transfers from abroad. Given this information, country A’s “balance on current account” in
2004 was
a. a $19 deficit.
b. a $10 deficit.
c. a $4 deficit.
d. a $6 surplus.
4. If U.K. interest rates are higher than Japanese interest rates, then the theory of covered interest
arbitrage would suggest that, in the £/yen exchange markets, the yen would be at a forward
and the pound would
.
a. discount; be at a forward premium
b. discount; also be at a forward discount
c. premium; also be at a forward premium
d. premium; be at a forward discount
5. An exporter who is to receive payment in foreign currency in three months and who wants to
engage in “hedging” would
the foreign currency on the three-months forward
market in order to protect himself/herself from
of the foreign currency.
a. buy; an appreciation
b. buy; a depreciation
c. sell; an appreciation
d. sell; a depreciation
6. If a “Big Mac” costs $2.50 in the United States and 2 pesos in Argentina, then the implied
“purchasing-power-parity” exchange rate using the “Big Mac” is
. If the actual
exchange rate in the market is 0.6 pesos = $1, then an economist would say that the Argentine
peso is
in comparison with its “purchasing-power-parity” rate.
a. 0.8 pesos = $1; overvalued
b. 0.8 pesos = $1; undervalued
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c. 1.25 pesos = $1; overvalued
d. 1.25 pesos = $1; undervalued
7. In the asset market or portfolio balance approach, other things equal, a depreciation of the home
currency would be caused by
in inflationary expectations in the home country and
by
in real income in the home country.
a.
b.
c.
d.
an increase; an increase
an increase; a decrease
a decrease; an increase
a decrease; a decrease
8. In the “overshooting” model, asset (and money) markets adjust
rapidly to disturbances
than do goods markets, and therefore the exchange rate and the price level
proportionately to each other in the short run.
a.
b.
c.
d.
more; move
more; do not move
less; move
less; do not move
Part 2: Problems and Essays
1. (12 points) As of February 2008 one-year dollar denominated bonds had a rate of return of
4% and Turkish government bonds with the same marurity had a 17.5 % interest rate. Due to
liquidity crises worldwide FED cut interest rate by 0.75% and the Central Bank of Turkey
followed the trend and cut the interest rate by 1%. What would happen in the short run in
terms of capital flows? Would the YTL depreciate or appreciate? Why?
2. (16 points) The spot exchange rate between YTL and euro is a flexible rate. What are the
effects of each of the following on this exchange?
a. Cars made in Turkey have become percieved as high quality cars.
b. A high court in Turkey issued a legal warning against the acquisition of real estate by firms
owned by european citizens.
c. AKP faced a law suit that might lead to the closure of the party.
d. Worker remittances had doubled.
3. (30 points)The following rates are given:
Current spot exchange rate: $1.50/euro
Current 1-year forward exchange rate : $1.60/euro
Interest rate on 1-year dollar denominated bonds: 5%
Interest rate on 1-year euro denominated bonds: 4%
a. Is the dollar at a forward premium or discount?
b. Should a US investor make a covered investment in euro-denominated bonds? Explain why?
c. If the covered interest parity holds, what should be the value of the forward exchange rate?
4. (10 points) What is the current account balance of a nation with a government budget surplus
of $100 billion, private saving of $900 billion and domestic capital formation of $800 billion?
5. (10 points) Turkey has an annual domestic inflation rate of about 9%. Suppose that Turkey
wants to depreaciate its currency against dollar by %10 in a world in which dollar prices are
generally rising at 4% per year. If the quantity theory of money holds with constant k and
growth rate of Turkish economy is 6% while the growth rate of US is 2%, what rate of money
growth should the Turkish government try to achieve? What must be rate of inflation in
Turkey?
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