In the foreign exchange market, demanding one currency means supplying another currency.
Correct Answer
True
True. Every exchange swaps one currency for another, so anyone who wants yen, for example, must offer dollars or some other currency in return.
Category: Foreign Exchange Basics
Question 2
Portfolio investment can usually be withdrawn from a country much more quickly than foreign direct investment.
Correct Answer
True
True. Portfolio investment is a purely financial holding, such as bonds or bank deposits, that can be sold quickly. Foreign direct investment involves owning at least 10 percent of a firm, often with a management role, and is usually long-term.
Category: Foreign Exchange Basics
Question 3
The foreign exchange market is a single physical building where all currency trading takes place.
Correct Answer
False
False. The foreign exchange market is a network of banks and dealers that trade currencies with customers and with each other around the world, not one physical location.
Category: Foreign Exchange Basics
Question 4
When a currency appreciates, it buys fewer units of other currencies.
Correct Answer
False
False. An appreciating, or strengthening, currency buys more units of other currencies. A depreciating currency buys fewer.
Category: Appreciation and Depreciation
Question 5
A weaker U.S. dollar makes U.S. exports more expensive for foreign buyers.
Correct Answer
False
False. When the dollar weakens, foreign currency buys more dollars, so U.S. goods become cheaper for foreign buyers and U.S. exports tend to rise.
Category: Appreciation and Depreciation
Question 6
A stronger currency is not automatically better for a country, because it helps some groups and hurts others.
Correct Answer
True
True. A stronger dollar helps U.S. tourists abroad and U.S. buyers of imports but hurts U.S. exporters and businesses that serve foreign visitors, so whether it is good depends on who you are.
Category: Appreciation and Depreciation
Question 7
A rise in the U.S. dollar's value against the Canadian dollar is the same event as a fall in the Canadian dollar's value against the U.S. dollar.
Correct Answer
True
True. An exchange rate links two currencies, so when one becomes stronger relative to the other, the other becomes weaker by the same movement; graphs of the two rates are mirror images.
Category: Currency Calculations
Question 8
Market exchange rates tend to fluctuate more in the short run than purchasing power parity exchange rates do.
Correct Answer
True
True. Market rates respond quickly to shifts in currency demand and supply, while PPP rates change only modestly from year to year, which makes PPP more useful for comparing economies.
Category: Purchasing Power Parity
Question 9
Over the long run, market exchange rates tend to move away from purchasing power parity.
Correct Answer
False
False. Market exchange rates can stray from PPP in the short and medium run but tend to move toward it over time, as buying and selling of traded goods across borders pulls prices into line.
Category: Purchasing Power Parity
Question 10
Buying goods where they are cheap and selling them where they are expensive tends to push prices of traded goods in different countries toward each other.
Correct Answer
True
True. This cross-border arbitrage raises demand where goods are cheap and adds supply where they are expensive, which moves prices and exchange rates toward purchasing power parity.
Category: Purchasing Power Parity
Question 11
Most international loans are denominated in the currencies of small developing economies.
Correct Answer
False
False. Most international loans are made in a few major currencies, such as the U.S. dollar, the euro and the Japanese yen, which is why banks in other countries often borrow in a foreign currency.
Category: Macroeconomic Effects
Question 12
Exchange rates move only slightly over short periods, so firms that trade across borders face little currency risk.
Correct Answer
False
False. Exchange rates can move substantially in a matter of months, which can turn profits into losses for exporters, importers and firms that compete with imports.
Category: Macroeconomic Effects
Question 13
In the East Asian crisis of 1997-1998, several countries' currencies depreciated sharply and their banking systems were badly damaged.
Correct Answer
True
True. Countries such as Thailand, Korea, Malaysia and Indonesia saw their currencies fall steeply, and banks that had borrowed in U.S. dollars could not repay, contributing to deep recessions.
Category: Macroeconomic Effects
Question 14
Under a floating exchange rate, a central bank needs no foreign exchange reserves to defend a rate.
Correct Answer
True
True. With a floating rate the market sets the exchange rate, so the central bank has no target to defend and no need for reserves, leaving monetary policy free to focus on inflation and recession.
Category: Exchange Rate Policies
Question 15
Under a hard peg, a central bank keeps wide freedom to use monetary policy against recessions and inflation.
Correct Answer
False
False. Under a hard peg, monetary policy must be used to hold the fixed exchange rate, which leaves little room to respond to domestic recessions or inflation.
Category: Exchange Rate Policies
Question 16
Abandoning a hard peg can cause a sudden, large change in the exchange rate.
Correct Answer
True
True. When a fixed rate that no longer matches market conditions is given up, the currency can jump or plunge at once, which is especially damaging for firms and banks that did not hedge.
Category: Exchange Rate Policies
Question 17
Milton Friedman argued that floating exchange rates can be fairly stable if a country's underlying economic policies are stable.
Correct Answer
True
True. Friedman held that if a central bank keeps inflation and recessions in check, exchange rates have less reason to swing, so floating rates need not be volatile.
Category: Exchange Rate Policies
Question 18
Monetary policy for the countries that use the euro is set separately by each member's own central bank.
Correct Answer
False
False. The European Central Bank sets one monetary policy for all euro countries, which is why a member gives up independent monetary policy when it joins.
Category: Exchange Rate Policies
Question 19
Under a merged currency, member nations still face exchange rate risk when trading with one another.
Correct Answer
False
False. Members of a merged currency use the same money, so trade among them carries no exchange rate risk; in effect it is a permanent fixed rate among members.
Category: Exchange Rate Policies
Question 20
Economists broadly agree that a hard peg is the best exchange rate policy for every country.
Correct Answer
False
False. Economists have reached no consensus on the best exchange rate policy; each option, from floating rates to merged currencies, carries tradeoffs that depend on a country's circumstances.
Category: Exchange Rate Policies