Unit 7: International Financial Markets - Practice Quiz

1 What is the foreign exchange market primarily used for?

2 Which participants commonly trade in the foreign exchange market?

3 What does an exchange rate show?

4 Which transaction creates a demand for foreign currency?

5 What is a spot exchange transaction?

6 What is a fixed exchange rate system?

7 What happens to a currency under a floating exchange rate system?

8 What is a managed float exchange rate system?

9 Which institution usually manages a country's exchange rate policy?

10 What is a currency peg?

11 What is likely to happen to a currency when demand for it increases?

12 Which factor can affect exchange rates through international trade?

13 How can higher interest rates affect a country's currency?

14 What is inflation?

15 How can political stability influence a country's exchange rate?

16 What does currency appreciation mean?

17 What does currency depreciation mean?

18 How can a weaker domestic currency affect exports?

19 How can a weaker domestic currency affect imports?

20 Which business is most directly exposed to exchange rate risk?

21 An Indian importer must pay $200,000 to a US supplier after 90 days. The importer expects the US dollar to appreciate against the Indian rupee. Which action would best reduce the exchange rate risk?

22 The spot exchange rate is ₹83.00 per US dollar, while the three-month forward rate is ₹84.20 per US dollar. What does this indicate about the US dollar in the forward market?

23 A dealer observes $1 = €0.90 in London and $1 = €0.93 in Frankfurt at the same moment. Ignoring transaction costs, which trading strategy represents spatial arbitrage?

24 A bank quotes the US dollar at ₹83.10/₹83.30. An Indian company wants to buy US dollars from the bank. Which rate will apply?

25 A Japanese exporter will receive $1 million in two months and fears that the US dollar will depreciate against the yen. Which forward transaction provides an appropriate hedge?

26 Under a fixed exchange rate system, a country's currency faces persistent downward pressure. What is the most direct central bank response for defending the official rate?

27 A central bank announces a target exchange rate but intervenes only when market movements become unusually large. Which arrangement does this most closely represent?

28 Country X fixes its currency at 5 units per US dollar and promises to issue domestic currency only when backed by equivalent dollar reserves. Which system is being used?

29 A country pegs its currency to the US dollar but adjusts the official rate downward by 1% every quarter to reflect its inflation differential. This is an example of:

30 Country A adopts the euro and gives up its national currency. What is the most significant exchange rate consequence of this decision?

31 Inflation in Country A is consistently higher than inflation in Country B, while other factors remain unchanged. According to purchasing power parity, what is likely to happen over time?

32 Country P unexpectedly raises interest rates while rates in comparable countries remain unchanged. Investors view Country P as financially stable. What is the likely short-run effect on its currency?

33 A country experiences a sharp increase in demand for its exports, with no comparable rise in imports. What is the most likely effect on its currency?

34 Investors expect Country M's currency to depreciate significantly next month. How can this expectation affect the currency today?

35 Country R records a large current account deficit financed mainly by short-term foreign borrowing. Global investors suddenly become more risk-averse. What is the most likely pressure on Country R's currency?

36 The domestic currency depreciates from ₹80 per US dollar to ₹88 per US dollar. By what percentage has the rupee price of one dollar increased?

37 A British retailer imports products priced in US dollars but sells them in pounds. If the pound depreciates against the dollar and retail prices cannot be changed immediately, what is the likely effect?

38 A US company owns a profitable subsidiary in Japan. The subsidiary's earnings are unchanged in yen, but the yen depreciates against the dollar. How will this generally affect the earnings reported in US dollars?

39 A currency depreciation is expected to improve a country's trade balance, but imports and exports respond slowly because contracts and quantities are fixed in the short run. Which pattern may result?

40 A Canadian exporter sells equipment for €500,000 and receives payment immediately. The rate changes from CAD 1.45 per euro to CAD 1.50 per euro before the exporter converts the receipt. What is the change in the Canadian-dollar value of the payment?

41 The interbank market quotes EUR/USD at , GBP/USD at , and EUR/GBP at . Ignoring transaction costs, which transaction sequence produces a triangular-arbitrage profit?

42 A US exporter will receive EUR million in three months. A dealer quotes three-month EUR/USD forward rates of , where the first number is the dealer's bid. If the exporter fully hedges, how many dollars will it lock in?

43 The spot rate is JPY per USD. One-year interest rates are in the United States and in Japan. Under covered interest parity with annual compounding, what is the one-year forward rate in JPY per USD?

44 Two banks settle a USD/EUR trade through a payment-versus-payment system. Which risk is most directly reduced because neither currency's final transfer occurs unless the other currency's transfer also occurs?

45 A currency is quoted at USD per GBP in the spot market and USD per GBP for six-month delivery. Which interpretation of the forward points is correct?

46 A country maintains a fully credible fixed exchange rate, allows unrestricted capital mobility, and faces a recession-specific demand shock. Under the monetary-policy trilemma, which stabilization instrument is unavailable as an independent tool?

47 A country operates a crawling peg that depreciates its currency by annually against its trading partner's currency. Domestic inflation is , while foreign inflation is . Approximately what happens to the country's price competitiveness over the year?

48 A currency board holds foreign reserves equal to the monetary base and converts domestic currency into the anchor currency at a legally fixed rate. During a bank run, what is its central constraint relative to a conventional central bank?

49 A central bank promises to keep its currency within a narrow band but has limited reserves and repeatedly defends the weak edge of the band. Which development most increases the likelihood of a self-fulfilling speculative attack?

50 A central bank announces no numerical exchange-rate target but intervenes frequently to slow both appreciation and depreciation while allowing long-run market adjustment. Which arrangement best describes this regime?

51 Under relative purchasing power parity, the domestic price level rises by while the foreign price level rises by . If the exchange rate is domestic currency per unit of foreign currency, what is the predicted exact percentage change in the exchange rate?

52 Suppose uncovered interest parity with a currency risk premium is defined by , where an increase in means depreciation of the home currency. If , , and , what depreciation is expected?

53 In a Dornbusch-style model with sticky goods prices and flexible asset prices, an unexpected permanent monetary expansion initially lowers the domestic interest rate. What exchange-rate path is most consistent with overshooting?

54 Productivity rises persistently in a country's tradable-goods sector but not in its nontradable sector, while foreign productivity is unchanged. Under the Balassa-Samuelson mechanism, what is the likely long-run effect?

55 A government unexpectedly increases persistent deficit spending while the central bank prevents inflation by raising interest rates. Capital is highly mobile, and investors view government debt as sustainable. What is the most likely short-run currency response?

56 After a currency depreciation, import and export quantities adjust slowly because contracts are fixed, while import prices in domestic currency rise immediately. Which current-account pattern is predicted by the J-curve effect?

57 A country begins with balanced trade. Export and import demand elasticities in absolute value are and , respectively. Under the Marshall-Lerner condition, what is the long-run effect of a small currency depreciation?

58 A domestic firm earns all revenue in domestic currency but has issued a fixed-rate bond denominated in USD. Its domestic currency unexpectedly depreciates by against USD. With no hedge and no offsetting foreign assets, what is the primary balance-sheet effect?

59 A European subsidiary's functional currency is EUR, and its US parent reports in USD. The euro depreciates, but the subsidiary's local-currency cash flows and competitive position do not change. Which exposure most directly reduces the parent's reported consolidated equity?

60 A foreign producer invoices exports in the importer's currency and keeps that invoice price unchanged after the importer's currency depreciates. In the short run, which consequence is most likely?