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Chapter 17

1) The functions of money are A) medium of exchange and the ability to buy goods and services B) medium of exchange, unit of account, and means of  Mar 25, 2011 (including on the World Wide Web) will destroy the integrity of the work and

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CHAPTER SIX Balance of Payments and Foreign Exchange Markets True/False 1

In the balance of payments accounts the sum of all debits is equal to the value transferred out of the economy in the given period

Ans: True Dif: M 2

A $5,000 computer shipped abroad from the U

Ans: False Dif: M 3

If a domestic resident receives payment from abroad a credit entry is made in the balance of payments accounts

Ans: True Dif: M 4

An import of foods would result in a debit in the goods category of the current account

Ans: True Dif: M 5

The most accurately measured balance of payments category is the capital account

Ans: False Dif: E 6

The cost to ship military equipment to Afghanistan to bring down the Taliban resulted in resulted in an entry in the services category of the current account

Ans: True Dif: M 7

Purchases of foreign securities by domestic residents results in a decrease to the capital account but the interest received from those securities results in an increase to the current account

Ans: True Dif: M 8

A net capital inflow means the net purchases of foreign assets by domestic residents exceed the net purchases of domestic assets by private foreign residents

Ans: False Dif: M

Chapter 6 — Test Bank

A balance of payments deficit refers to a situation where the official settlements balance is negative

Ans: False Dif: D'10

If one includes the statistical discrepancy the overall balance of payments for a country is always zero

Ans: True Dif: E 11

A country’s balance of payments account has a statistical discrepancy of zero,

a current account surplus of $50 billion and a capital account deficit of $35 billion

The official settlements balance must be a net $15 billion credit

Ans: True Dif: D'12

The current price to buy a unit of foreign currency now is called the spot exchange rate

Ans: True Dif: E 13

Foreign exchange risk is eliminated for all parties to an import transaction if the purchase is denominated in the local currency

Ans: False Dif: M 14

In most wholesale foreign exchange transactions hard currencies never cross national boundaries

Ans: True Dif: E 15

Banks and foreign exchange brokers account for about 90% of all foreign exchange market transactions

Ans: False Dif: M 16

The foreign exchange market is more than twenty–five times larger than the combined volume of the world’s ten largest stock markets

Ans: True Dif: E 17

The market to buy or sell a currency for delivery within 2 to 3 days is called the forward market

Ans: False Dif: E 18

You buy the British pound at £0

55 per £

Ignoring commissions,

you came out ahead on the deal

Ans: True Dif: M

Balance of Payments and Foreign Exchange Markets

You have Euros and you buy the dollar at $1

05 per $

Ignoring commissions,

you came out ahead on the deal

Ans: False Dif: M 20

In a cross rate table,

dollar per unit of foreign currency for the various country columns

Ans: False Dif: D'21

The real exchange rate is always less than the nominal exchange rate

Ans: False Dif: M 22

The effective exchange rate is an exchange rate that has been adjusted for different price levels the two countries under consideration

Ans: False Dif: E 23

A weighted average measure of the value of a currency relative to two or more other currencies is termed an effective exchange rate

Ans: True Dif: E 24

The risk that the revenues or costs associated with a transaction expressed in terms of the domestic currency may change due to variations in exchange rates is called translation exposure

Ans: False Dif: E 25

The risk that changes in exchange values might change today’s value of a firm’s future income streams is called economic exposure

Ans: True Dif: E 26

Entering into a derivatives contract to offset the risk of another position is termed hedging

Ans: True Dif: E 27

A firm sells the pound short in the spot market in hopes of buying it back at a lower price in the future

The firm is engaging in currency speculation

Ans: True Dif: E 28

You buy an option that you can exercise only on the expiration date of the option

You must have purchased a European option

Ans: True Dif: E

Chapter 6 — Test Bank

An American currency call option gives the holder the right,

to purchase the underlying currency at a preset price at any time until the option expires

Ans: True Dif: E 30

firm has entered into a contract to buy textiles from Hong Kong

Payment will be in Hong Kong dollars in 6 months

importer could reduce its currency risk by selling the Hong Kong dollar forward

Ans: False Dif: M

Multiple Choice 1

tourist traveling in Europe spends money on a hotel room and food in Paris

These transactions result in a __________ to the __________ category of the U

A) debit

In the U

balance of payments accounts U

firms importing goods results in a __________ and U

residents purchasing foreign stocks and bonds results in a __________

A) debit

Activities in the services category of the balance of payments accounts include I

international tourism & travel

royalties and fees received from overseas

A) I only B) II only C) I and II only D) II and III only E) I,

II and III Ans: E Dif: E

Balance of Payments and Foreign Exchange Markets

A German resident buys a long term U

Treasury bond and receives coupon interest in the same year

The purchase price of the Treasury bond is recorded in the German __________ account and the income is recorded in the German __________ account

A) capital

official settlements E) official settlements

A Swiss resident buys a long term U

Treasury bond and receives coupon interest in the same year

The purchase of the Treasury bond is a __________ in the Swiss balance of payments and the income received is a __________

A) debit

Suppose that in a given month U

residents buy $16 million of foreign stocks and bonds,

at the same time foreigners buy $25 million of U

stocks and bonds and the official settlement account increases $10 million

The net effect of these three sets of transactions is to A) increase the capital account by $51 million

B) decrease the capital account by $41 million

C) increase the capital account by $19 million

D) decrease the capital account by $1 million

E) none of the above Ans: C Dif: D'7

Changes in the financial assets and deposits of government agencies are recorded in the A) current account

B) services account

C) capital account

D) official settlements account

E) income account

Ans: D'Dif: E

Chapter 6 — Test Bank

A country imports $800 million worth of goods and services and exports $600 million

The country’s private agents purchase $200 million of foreign assets and foreigners buy $300 million of domestic assets

If the statistical discrepancy is –$100 million,

what must be the net official settlements balance if there are no other transactions

? A) $400 million credit B) $200 million credit C) $300 million debit D) $200 million debit E) $400 million debit Ans: B Dif: D'9

A country has a current account surplus of $300 million and a capital account deficit of $400 million

If the statistical discrepancy is zero this situation must result in A) a balances of payment deficit

B) a positive official settlements balance

C) a negative official settlements balance

D) both A) and B) E) both A) and C) Ans: D'Dif: M 10

The current account includes which of the following categories

goods services income unilateral transfers

A) I and II only B) I and III only C) II and IV only D) I,

II and IV only E) I,

III and IV Ans: E Dif: E 11

A capital account surplus implies that a country’s domestic residents A) purchased more foreign assets than foreigners purchased domestic assets

B) purchased less foreign assets than foreigners purchased domestic assets

C) imported more goods and services than they exported

D) exported more goods and services than they imported

E) received more income from foreign asset holdings than foreigners received on their domestic asset holdings

Ans: B Dif: M

Balance of Payments and Foreign Exchange Markets

NARRBEGIN: Table 1,

Balance of Payment Data Hypothetical U

BOP Data Bill $ Exports of merchandise $125 Imports of merchandise Exports of services $ 55 Imports of services U

foreign aid payments to Income received from domestic $ 10 Afghanistan holdings of foreign assets Statistical discrepancy Foreign purchases of U

assets Official Settlements Balance $ 5 U

purchases of foreign assets Income paid to foreigners on their $ 9 domestic asset holdings

Bill $ $120 $ 45 $ 11 $ 25 $ 55

NARREND 12

Refer to Table 1 to answer the following question: The current account must be equal to a A) $27 billion surplus

B) $17 billion surplus

C) $15 billion surplus

D) $27 billion deficit

E) $17 billion deficit

Ans: A NAR: Table 1 Balance of Payment Data Dif: M 13

Refer to Table 1 to answer the following question: The capital account must be equal to a A) $28 billion deficit

B) $30 billion deficit

C) $28 billion surplus

D) $18 billion surplus

E) $30 billion surplus

Ans: B NAR: Table 1 Balance of Payment Data Dif: M 14

Refer to Table 1 to answer the following question: The statistical discrepancy must be equal to ________ billion

A) +$3 B) –$3 C) $0 D) +$2 E) –$2 Ans: E NAR: Table 1 Balance of Payment Data Dif: D

Chapter 6 — Test Bank

Which one of the following does not belong in the current account

? A) humanitarian foreign aid payments B) income earned on foreign assets C) purchases of domestic financial assets by foreigners D) payments for military services abroad E) exports and imports of services Ans: C Dif: E 16

The foreign exchange market is a market for the exchange of A) currency

B) goods

C) services

D) income streams

E) none of the above Ans: A Dif: E 17

had a capital account surplus in 2001

This means that the U

A) either net sold assets to foreigners and/or net increased its indebtedness to foreigners

B) exported more than goods than services

C) exported more goods and services than it imported

D) imported more goods and services than it exported

E) must have had a positive official settlements balance

Ans: A Dif: M 18

The bulk of foreign exchange trading activity is A) hard currency transfers across borders

B) due to tourism,

C) in the forward market

D) done with currency futures

E) electronic or phone originated trades of foreign currency denominated financial instruments

Ans: E Dif: E 19

Citigroup has a £10 million deposit in the U

that they wish to convert to Swiss francs (Sfr)

UBS is willing to switch the pounds to francs at a rate of 2

Deutsche Bank will accept £0

Based on these quotes,

what is the greatest amount of francs that Citigroup can get for its £10 million

? A) 23,255,813 B) 23,200,000 C) 4,310,345 D) 25,433,336 E) 4,300,000 Ans: A Dif: E

Balance of Payments and Foreign Exchange Markets

Rank the following foreign exchange participants from largest to smallest in trading activity: I

foreign exchange trading websites III

foreign exchange brokers A) I,

III B) I,

II C) II,

I D) III,

I E) III,

II Ans: B Dif: M 21

The currency per U

dollar quote for the British pound is 1

If you wish to buy $1,000 worth of pounds,

? A) 1,550 B) 645 C) 450 D) 1000 E) 550 Ans: B Dif: E 22

The exchange rate for the euro changed from 0

2002 to 0

9966 (U

dollar equivalent) on December 3,

If you used $1 million to buy euros on December 2 and sold them on December third you made A) +$200

B) –$144

C) –$200

D) +$144

E) none of the above Ans: C Dif: M 23

The Canadian dollar is worth 64 cents U

If the Canadian dollar drops in value by 2% the Canadian dollar will be worth __________ cents U

72 B) 65

28 C) 66

00 D) 62

Chapter 6 — Test Bank

The Canadian dollar is worth 64 cents U

If the U

dollar drops in value by 3% the Canadian dollar will be worth __________ cents U

28 B) 65

92 C) 65

31 D) 62

The currency per U

$ for the South Korean won is 1217

The similar quote for the Japanese yen against the dollar is 124

What is the implied won per yen cross exchange rate

66 B) 0

9986 D) 0

The British pound is worth 2

How many pesos is the British pound worth

0626 B) 0

3354 C) 2

9818 D) 15

The CPI is now at 181 and last year it was at 170

Inflation over the year was A) 9

Ans: D'Dif: E 28

Suppose that the CPI in Britain is at 125 and the CPI in the U

If the nominal exchange rate is $1

what is the real exchange rate for the dollar

6276 B) $1

Balance of Payments and Foreign Exchange Markets

firm has contracted to purchase French wines and has agreed to pay € 5 million in 6 months

Which of the following methods could be used to reduce the U

firm’s exchange rate risk that results from the deal

Buy the euro forward

Buy a call option on the euro

Swap euros for dollars now

A) I only B) II only C) I and II only D) II and III only E) I,

II and III Ans: C Dif: M 30

In foreign exchange,

the European demand for the dollar also represents the A) European demand for dollar denominated goods and services

B) supply of the euro made available for foreign exchange

C) European supply of euro denominated goods and services

D) supply of the dollar made available for foreign exchange

E) both A) & B) Ans: E Dif: D'31

The Thai baht is currently trading at 42 baht to the dollar in the spot market

The 3 month forward rate is 0

What is the standard forward premium or discount for the baht

The ruble is currently trading at 31 rubles to the dollar in the spot market

The 4 month forward rate is 35 rubles to the dollar

What is the standard forward premium or discount for the ruble

Chapter 6 — Test Bank

The yen has a one year forward discount of 3% against the dollar

If the spot exchange rate is 124 yen to the dollar what is the expected future spot rate in one year given that there is no bias in the forward rate

You believe the yen will increase in value by 4% against the dollar in one year

If you think the spot exchange rate in one year will be 120 yen to the dollar,

what must the spot rate be right now

If the spot exchange rate is $1

to the pound and the pound is expected to depreciate by 3% over the next year,

what is the dollar expected to do against the pound

? A) appreciate 3% B) depreciate 3% C) appreciate 3

Which one of the following statements about differences in currency futures and forwards is not correct

? A) Futures contracts are more standardized than forward contracts

B) Futures contracts may require the holder to pay out cash before contract maturity and forwards do not

C) Forward contracts are generally for smaller amounts of currency than futures contracts

D) Futures contracts are more liquid than forward contracts

E) Futures contracts are traded on organized exchanges and forwards are OTC contracts negotiated between two parties

Ans: C Dif: D

Balance of Payments and Foreign Exchange Markets

A contract that grants the holder the right to buy a given amount of a foreign currency at a predetermined exchange rate until or on a specified date is a currency A) forward contract

B) futures contract

C) call option

D) put option

E) swap agreement

Ans: C Dif: E 38

A contract that grants the holder the right to sell a given amount of a foreign currency at a predetermined exchange rate until or on a specified date is a currency A) forward contract

B) futures contract

C) call option

D) put option

E) swap agreement

Ans: D'Dif: E 39

A contract that allows the holder to buy a given amount of a foreign currency at a predetermined exchange rate only on a specified date is a/an A) American put option

B) European put option

C) American call option

D) European call option

E) swap agreement

Ans: D'Dif: E