CA Foundation Economics – Exchange Rate Multiple Choice Questions

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Exchange Rate And Its Economic Effects Introduction

Question 1. What is an exchange rate?

  1. The rate at which a country exports goods and services
  2. The rate at which a country imports goods and services
  3. The rate at which one currency can be exchanged for another currency
  4. The rate at which a country’s central bank sets interest rates

Answer: 3. The rate at which one currency can be exchanged for another currency

Explanation:

An exchange rate is the rate at which one currency can be exchanged for another currency in the foreign exchange market.

Question 2. How is the exchange rate determined in a floating exchange rate system?

  1. By the country’s central bank through interventions in the foreign exchange market
  2. The demand and supply of currencies in the foreign exchange market
  3. By fixed government policies that peg the exchange rate to a specific value.
  4. International organizations like the World Bank set the exchange rate

Answer: 2. By the demand and supply of currencies in the foreign exchange market

Explanation:

In a floating exchange rate system, the exchange rate is determined by the demand and supply of currencies in the foreign exchange market.

Question 3. How does a depreciation of a country’s currency affect its exports?

  1. It increases the cost of exports, making them less competitive in foreign markets
  2. It decreases the cost of exports, making them more competitive in foreign markets
  3. It has no impact on the cost of exports
  4. It leads to a complete halt in exports

Answer: 2. It decreases the cost of exports, making them more competitive in foreign markets

Explanation:

A depreciation of a country’s currency reduces the cost of its exports in foreign currency terms, making it more competitive in foreign markets.

Question 4. What is the term used to describe a situation where a country deliberately lowers the value of its currency to gain a competitive advantage in international trade?

  1. Devaluation
  2. Revaluation
  3. Appreciation
  4. Stabilization

Answer: 1. Devaluation

Explanation:

Devaluation refers to a deliberate reduction in the value of a country’s currency by its government to improve export competitiveness.

Question 5. How does an appreciation of a country’s currency impact its imports?

  1. It increases the cost of imports, making them more attractive to domestic consumers
  2. It decreases the cost of imports, making them less attractive to domestic consumers
  3. It has no impact on the cost of imports
  4. It leads to a complete halt in imports

Answer: 1. It increases the cost of imports, making them more attractive to domestic consumers

Explanation:

An appreciation of a country’s currency increases the cost of imports in domestic currency terms, making them less attractive to domestic consumers.

Question 6. How is the exchange rate determined in a floating exchange rate system?

  1. It is fixed by the World Bank based on a country’s economic, performance
  2. It is determined by supply and demand in the foreign exchange market
  3. It is set unilaterally by each country’s central bank
  4. It is pegged to the price of gold or another commodity

Answer: 2. It is determined by supply and demand in the foreign exchange market

Explanation:

In a floating exchange rate system, the exchange rate is determined by the forces of supply and demand in the foreign exchange market.

Question 7. What is the impact of a depreciation of a country’s currency on its exports?

  1. Exports decrease because foreign goods become cheaper for , domestic consumers –
  2. Exports increase because domestic goods become cheaper for foreign consumers
  3. Exports remain unchanged as the depreciation does not affect trade
  4. Exports increase because foreign goods become more expensive for domestic consumers

Answer: 4. Exports increase because domestic goods become cheaper for foreign consumers

Explanation:

A depreciation of a country’s currency makes its goods and services relatively cheaper for foreign consumers, leading to an increase in exports.

Question 8. How does an appreciation of a country’s currency affect its imports?

  1. Imports decrease because domestic goods become cheaper for foreign consumers
  2. Imports increase because foreign goods become cheaper for domestic consumers
  3. Imports remain unchanged as the appreciation does not affect trade
  4. Imports increase because domestic goods become more expensive for foreign consumers

Answer: 4. Imports increase because domestic goods become more expensive for foreign consumers

Explanation:

An appreciation of a country’s currency makes its goods and services relatively more expensive for foreign consumers, leading to an increase in imports.

Question 9. What is a trade surplus?

  1. When a country’s imports exceed its exports
  2. When a country’s exports exceed its imports
  3. When a country has a fixed exchange rate regime.
  4. When a country’s inflation rate is higher than that of its trading partners

Answer: 2. When a country’s exports exceed its imports

Explanation:

A trade surplus occurs when a country’s exports exceed its imports, resulting in a positive balance of trade.

Question 10. The exchange rate is the

  1. Rate at which one currency can be exchanged for another currency
  2. The rate at which a country’s central bank lends money to commercial banks
  3. The rate at which a country’s government borrows money from foreign lenders
  4. The rate at which a country’s inflation is calculated

Answer: 1. Rate at which one currency can be exchanged for another currency

Question 11. An appreciation of a country’s currency means that

  1. Its exchange rate has decreased, making its exports more expensive
  2. Its exchange rate has increased, making its exports more expensive
  3. Its exchange rate has decreased, making its exports more competitive
  4. Its exchange rate has increased, making its exports more competitive

Answer: 4. Its exchange rate has increased, making its exports more competitive

Question 12. A depreciation of a country’s currency means that

  1. Its exchange rate has decreased, making its imports more expensive
  2. Its exchange rate has increased, making its imports more expensive
  3. Its exchange rate has decreased, making its imports more affordable
  4. Its exchange rate has increased, making its imports more affordable

Answer: 3. Its exchange rate has decreased, making its imports more affordable

Question 13. The impact of a currency appreciation on a country’s economy includes

  1. Increased export competitiveness and lower import costs
  2. Reduced export competitiveness and higher import costs
  3. Increased inflation and higher interest rates
  4. Decreased inflation and lower interest rates

Answer:  2. Reduced export competitiveness and higher import costs

Question 14. A flexible exchange rate system is one in which

  1. The exchange rate is fixed and controlled by the central bank
  2. The exchange rate is determined by market forces of supply and demand
  3. The exchange rate is pegged to a specific commodity such as gold
  4. The exchange rate is determined by a committee of international economists

Answer: 2. The exchange rate is determined by market forces of supply and demand

The Exchange Rate

Question 1. In a floating exchange rate system, how is the exchange rate determined?

  1. It is fixed by the government to stabilize international trade
  2. It is determined by supply and demand in the foreign exchange market ‘
  3. It is pegged to a specific commodity, such as gold
  4. It is set unilaterally by each country’s central bank

Answer: 2. It is determined by supply and demand in the foreign exchange market

Explanation:

In a floating exchange rate system, the exchange rate is determined by the forces of supply and demand in the foreign exchange market.

Question 2. What does an appreciation of a country’s currency mean?

  1. The currency has increased in value relative to other currencies
  2. The currency has decreased in value relative to other currencies
  3. The country’s central bank has intervened to stabilize the exchange rate
  4. The country is experiencing high inflation rates

Answer: 1. The currency has increased in value relative to other currencies

Explanation:

An appreciation of a country’s currency means that the value of the currency has increased relative to other currencies.

Question 3. How does an appreciation of a country’s currency affect its exports?

  1. Exports increase because foreign goods become cheaper for domestic consumers
  2. Exports decrease because domestic goods become more expensive for foreign consumers.
  3. Exports remain unchanged as the appreciation does not affect trade
  4. Exports increase because domestic goods become more expensive for domestic consumers

Answer: 2. Exports decrease because domestic goods become more expensive for foreign consumers

Explanation:

An appreciation of a country’s currency makes its goods and services relatively more expensive for foreign consumers, leading to a decrease in exports.

Question 4. What is a trade deficit?

  1. When a country’s exports exceed its imports
  2. When a country’s imports exceed its exports
  3. When a country has a fixed exchange rate regime
  4. When a country’s inflation rate is higher than that of its trading partners

Answer: When a country’s imports exceed its exports

Explanation:

A trade deficit occurs when a country’s imports exceed its exports, resulting in a negative balance of trade.

Question 5. The exchange rate is the price of one currency expressed in terms of another currency. It tells us

  1. The inflation rate of a country ‘
  2. The interest rate set by the central bank
  3. The rate at which goods are exchanged in international trade
  4. The rate at which one currency can be exchanged for another currency

Answer: 4. The rate at which one currency can be exchanged for another currency

Question 6. A fixed exchange rate system is one in which

  1. The exchange rate fluctuates freely based on market forces
  2. The exchange rate is determined by a committee of international economists
  3. The exchange rate is pegged or fixed relative to a specific currency or a basket of currencies
  4. The exchange rate is set by the World Trade Organization (WTO)

Answer: 3. The exchange rate is pegged or fixed relative to a specific currency or a basket of currencies

Question 7. In a floating exchange rate system

  1. The exchange rate is fixed and does not change over time
  2. The exchange rate is determined by supply and demand in the foreign exchange market
  3. The exchange rate is determined by government authorities and central banks
  4. The exchange rate is the same for all countries

Answer: 2. The exchange rate is determined by supply and demand in the foreign exchange market

Question 8. The exchange rate between two currencies can be influenced by factors such as

  1. The weather conditions in each country
  2. The political stability of the countries.
  3. The population size of each country
  4. The interest rate differentials and economic performance of the countries

Answer: 4. The interest rate differentials and economic performance of the countries

Question 9. If the exchange rate between the US dollar (USD) and the Euro (EUR) is 1 USD = 0.85 EUR, how many Euros would you qet for 100 US dollars?

  1. 85 EUR
  2. 115 EUR
  3. 100 EUR
  4. 120 EUR

Answer: 2. 115 EUR

The Exchange Rate Regimes

Question 1. What is an exchange rate regime?

  1. The rate at which a country’s central bank lends money to commercial banks,
  2. The rate at which one country’s currency can be exchanged for another country’s currency
  3. The framework adopted by a country to determine the value of its currency to other currencies
  4. The rate at which a country’s central bank buys and sells government securities

Answer: 3. The framework adopted by a country to determine the value of its currency to other currencies

Explanation:

An exchange rate regime is the framework adopted by a country to determine the value of its currency to other currencies, and it can be fixed or flexible.

Question 2. In a fixed exchange rate regime, the exchange rate is

  1. Determined by supply and demand in the foreign exchange market
  2. Set by the country’s central bank and remains constant
  3. Free to fluctuate based on market forces
  4. Linked to the price of gold or another commodity

Answer: 2. Set by the country’s central bank and remains constant Explanation:

In a fixed exchange rate regime, the country’s central bank sets the exchange rate and maintains its constancy by buying or selling foreign – currency.

Question 3. Which exchange rate regime allows the exchange rate to be determined by market forces without significant intervention from the central bank?

  1. Fixed exchange rate regime
  2. Flexible exchange rate regime
  3. Crawling peg exchange rate regime
  4. Currency board arrangement

Answer: 2. Flexible exchange rate regime

Explanation:

In a flexible exchange rate regime, the exchange rate is mainly determined by market forces, and the central bank intervenes only to manage excessive volatility.

Question 4. What is a crawling peg exchange rate regime?

  1. An exchange rate regime where the currency is pegged to the price of gold
  2. An exchange rate regime where the central bank intervenes heavily to maintain a fixed rate
  3. An exchange rate regime where the exchange rate is adjusted gradually over time based on certain indicators
  4. An exchange rate regime where the currency is freely floated and determined by market forces

Answer: 3. An exchange rate regime where the exchange rate is adjusted gradually over time based on certain indicators

Explanation:

In a crawling peg exchange rate regime, the exchange rate is adjusted gradually over time based on certain indicators, such as inflation or trade balances.

Question 5. In a currency board arrangement, the central bank

  1. Intervenes heavily in the foreign exchange market to stabilize the exchange rate
  2. Has the authority to issue its currency independently of any foreign reserve backing
  3. Holds reserves in a specific foreign currency to back the domestic currency at a fixed rate
  4. Allows the currency to float freely based on market demand and supply

Answer: 3. Holds reserves in a specific foreign currency to back the domestic currency at a fixed rate Explanation:

In a currency board arrangement, the central bank holds reserves in a specific foreign currency, which fully backs the domestic currency at a fixed exchange rate.

Question 6. Which of the following is an example of a fixed exchange rate regime?

  1. Floating exchange rate system
  2. Managed float exchange rate system
  3. Currency board arrangement
  4. Target exchange rate system

Answer: 3. Currency board arrangement

Explanation:

A currency board arrangement is an example of a fixed exchange rate regime, where the country’s central bank is required to hold reserves in foreign currency equal to the total amount of its domestic currency in circulation.

Question 7. In a floating exchange rate regime, how is the exchange rate determined?

  1. It is set unilaterally by each country’s central bank
  2. It is determined by supply and demand in the foreign exchange market
  3. It is pegged to a specific commodity, such as gold
  4. It is fixed by the International Monetary Fund (IMF)

Answer: 2. It is determined by supply and demand in the foreign exchange market

Explanation:

In a floating exchange rate regime, the exchange rate is determined by the forces of supply and demand in the foreign exchange market.

Question 8. Which exchange rate regime allows the value of a country’s currency to fluctuate within a specified band?

  1. Fixed exchange rate system
  2. Managed float exchange rate system
  3. Crawling peg exchange rate system
  4. Currency board arrangement

Answer: Crawling peg exchange rate system

Explanation:

In a crawling peg exchange rate system, the exchange rate is allowed to fluctuate within a specified band, and the central bank regularly adjusts the exchange rate within that band.

Question 9. What is the primary/ advantage of a flexible exchange rate regime?

  1. It promotes exchange rate stability and reduces currency volatility
  2. It allows the government to control interest rates more effectively
  3. It eliminates the need for foreign exchange reserves
  4. It allows the country to pursue an independent monetary policy

Answer: 4. It allows the country to pursue an independent monetary policy

Explanation:

The primary advantage of a flexible exchange rate regime is that it allows the country to pursue an independent monetary policy, as the central bank can adjust interest rates and money supply according to domestic economic conditions.

Question 10. An exchange rate regime refers to

  1. The rate at which one currency can be exchanged for another, currency.
  2. The system or framework used by a country to determine its exchange rate policy
  3. The process of converting one currency into another for international trade
  4. The rate at which a country’s central bank lends money to i commercial banks

Answer: 2. The system or framework used by a country to determine its exchange rate policy

Question 11. In a fixed exchange rate regime, the exchange rate is

  1. Determined by market forces of supply and demand
  2. Allowed to fluctuate freely without intervention
  3. Pegged or fixed relative to a specific currency or a basket of currencies
  4. Determined by a committee of international economists

Answer: 3. Pegged or fixed relative to a specific currency or a basket of currencies

Question 12. Under a floating exchange rate regime, the exchange rate is primarily determined by

  1. Market forces of supply and demand in the foreign exchange market
  2. Government authorities and central banks
  3. The World Trade Organization (WTO)
  4. A fixed formula set by the International Monetary Fund (IMF)

Answer: 1. Market forces of supply and demand in the foreign exchange market

Question 13. A managed or dirty float exchange rate regime is characterized by

  1. Frequent and significant fluctuations in the exchange rate
  2. A completely fixed exchange rate that does not change over time
  3. Minimal government intervention in the foreign exchange market
  4. Frequent government intervention to influence the exchange rate without fully fixing it

Answer: 4. Frequent government intervention to influence the exchange rate without fully fixing it

Question 14. A currency board system is a type of exchange rate regime where

Answer:

  1. The central bank completely controls and manages the exchange rate
  2. The exchange rate is determined by a committee of international economists
  3. The central bank pegs the domestic currency to a foreign currency at a fixed rate
  4. The exchange rate is allowed to fluctuate freely based on market forces

Answer: 3. The central bank pegs the domestic currency to a foreign currency at a fixed rate

Managed Float Systems

Question 1. What is a managed float exchange rate system?

  1. A system where the exchange rate is determined solely by market forces
  2. A system where the exchange rate is fixed to a specific commodity, such as gold
  3. A system where the central bank intervenes in the foreign exchange market to influence the exchange rate
  4. A system where the exchange rate is pegged to a basket of currencies

Answer: 3. A system where the central bank intervenes in the foreign exchange market to influence the exchange rate

Explanation:

In a managed float exchange rate system, the central bank occasionally intervenes in the foreign exchange market to influence the exchange rate and prevent excessive volatility.

Question 2. What is the primary reason for central bank intervention in a managed float system?

  1. To fix the exchange rate to a specific value
  2. To maintain a completely flexible and market-determined exchange rate
  3. To accumulate foreign exchange reserves for investment purposes
  4. To stabilize the exchange rate and avoid abrupt fluctuations

Answer: 4. To stabilize the exchange rate and avoid abrupt fluctuations

Explanation:

The primary reason for central bank intervention in a managed float system is to stabilize the exchange rate and prevent abrupt fluctuations that could have adverse effects on the economy.

Question 3. How does a central bank influence the exchange rate in a managed float system?

  1. By implementing capital controls to restrict currency flows
  2. By buying or selling foreign currencies in the foreign exchange market
  3. By fixing interest rates at a specific level
  4. By imposing tariffs and quotas on imported goods

Answer: 2. By buying or selling foreign currencies in the foreign exchange market

Explanation:

In a managed float system, the central bank can influence the exchange rate by buying or selling foreign currencies in the foreign exchange market, thereby affecting the demand and supply of the
domestic currency.

Question 4. Which of the following best describes the flexibility of exchange rates in a managed float system?

  1. The exchange rate is completely fixed and unchanged over time
  2. The exchange rate is determined solely by market forces with no central bank intervention
  3. The exchange rate is adjusted periodically based on market conditions and central bank interventions
  4. The exchange rate is pegged to a specific value against another currency

Answer: 3. The exchange rate is adjusted periodically based on market conditions and central bank interventions

Explanation:

In a managed float system, the exchange rate is not fixed, and it is adjusted periodically based on market conditions and central bank interventions to achieve certain policy objectives.

Question 5. What is the advantage of a managed float system compared to a fixed exchange rate system?

  1. It provides more exchange rate stability
  2. It eliminates the need for foreign exchange reserves
  3. It allows the central bank to fully control the exchange rate
  4. It promotes currency speculations in the foreign exchange market

Answer: It provides more exchange rate stability

Explanation:

A managed float system provides more exchange rate stability compared to a fixed exchange rate system, as the central bank intervenes to stabilize the currency’s value.

Fixed Exchange Rates

Question 1. What is a fixed exchange rate system?

  1. A system where the exchange rate is determined solely by market forces
  2. A system where the exchange rate is fixed and maintained at a specific value by the central bank
  3. A system where the exchange rate is determined by a basket of currencies
  4. A system where the exchange rate is allowed to fluctuate within a specified band

Answer: 2. A system where the exchange rate is fixed and maintained at a specific value by the central bank

Explanation:

In a fixed exchange rate system, the exchange rate is fixed and maintained at a specific value by the central bank through interventions in the foreign exchange market.

Question 2. What is the primary advantage of a fixed exchange rate system?

  1. Exchange rate stability, reducing uncertainty for international trade and investments
  2. Flexibility in adjusting the exchange rate based on market conditions
  3. Full control of the exchange rate by market forces
  4. Ability to accumulate foreign exchange reserves easily

Answer:

Exchange rate stability, reducing uncertainty for international trade and investments

Explanation:

The primary advantage of a fixed exchange rate system is the exchange rate stability. provides, reducing uncertainty for international trade and investments.

Question 3. How does a central bank maintain a fixed exchange rate?

  1. By allowing the exchange rate to fluctuate based on market conditions
  2. By buying or selling foreign currencies in the foreign exchange market to balance supply and demand
  3. Imposing capital controls to restrict currency flows
  4. By pegging the exchange rate to a basket of goods and services

Answer: 2. By buying or selling foreign currencies in the foreign exchange market to balance supply and demand

Explanation:

In a fixed exchange rate system, the central bank maintains the fixed rate by buying or selling foreign currencies in the foreign exchange market to ensure supply and demand equilibrium.

Question 4. Which of the following is a disadvantage of a fixed exchange rate system?

  1. Exchange rate stability, reducing uncertainty for businesses and investors
  2. Limited ability to adjust to changing economic conditions
  3. Elimination of currency speculation in the foreign exchange market
  4. Enhanced ability to pursue independent monetary policies

Answer: 3. Limited ability to adjust to changing economic conditions

Explanation:

One of the disadvantages of a fixed exchange rate system is the limited ability to adjust to changing economic conditions, as the exchange rate remains fixed regardless of market forces.

Question 5. What happens if there is an imbalance in the supply and demand of a currency in a fixed exchange rate system?

  1. The central bank adjusts the fixed exchange rate to balance the market
  2. The central bank allows the exchange rate to fluctuate freely
  3. The central bank intervenes in the foreign exchange market to buy or sell currencies
  4. The exchange rate becomes flexible and market-determined

Answer: 3. The central bank intervenes in the foreign exchange market to buy or sell currencies

Explanation:

In a fixed exchange rate system, if there is an imbalance in the supply and demand of a currency, the central bank intervenes in the foreign exchange market to buy or sell currencies to maintain the fixed rate.

Nominal Versus REAL Exchange Rates

Question 1. What is a nominal exchange rate?

  1. The rate at which one country’s currency can be exchanged for another country’s currency
  2. The rate at which the central bank buys and sells government securities
  3. The rate at which a country’s central bank lends money to commercial banks
  4. The rate at which the inflation rate is changing over time

Answer: 2. The rate at which one country’s currency can be exchanged for another country’s currency

Explanation:

A nominal exchange rate is the rate at which one country’s currency can be exchanged for another country’s currency.

Question 2. How is the nominal exchange rate expressed?

  1. In terms of the price level of goods and services in each country
  2. In terms of the interest rate differential between the two countries
  3. In terms of the purchasing power of each country’s currency
  4. In terms of the number of units of foreign currency per unit of domestic currency

Answer: 4. In terms of the number of units of foreign currency per unit of domestic currency

Explanation:

The nominal exchange rate is expressed as the number of units of foreign currency that can be obtained per unit of domestic currency.

Question 3. What is a real exchange rate?

  1. The rate at which the central bank intervenes in the foreign exchange market
  2. The rate at which a country’s central bank sets interest rates
  3. The rate at which the inflation rate is changing over time
  4. The rate at which the relative price level of goods and services between two countries is changing over time

Answer: 4. The rate at which the relative price level of goods and services between two countries is changing over time

Explanation:

A real exchange rate is the rate at which the relative price level of goods and services between two countries changes over time, taking into account inflation differences.

Question 4. What does it mean when the real exchange rate is greater than one?

  1. The domestic currency is overvalued relative to foreign currencies
  2. The domestic currency is undervalued relative to foreign currencies
  3. The nominal exchange rate is increasing rapidly
  4. The country is experiencing high inflation rates

Answer: 1. The domestic currency is overvalued relative to foreign currencies

Explanation:

When the real exchange rate is greater than one, it indicates that the domestic currency is overvalued relative to foreign currencies, making domestic goods relatively more expensive for foreign consumers.

Question 5. How is the real exchange rate calculated?

  1. By dividing the nominal exchange rate by the inflation rate in the domestic country
  2. By dividing the inflation rate in the domestic country by the inflation rate in the foreign country
  3. By multiplying the nominal exchange rate by the inflation rate in the domestic country
  4. By adding the inflation rates in the domestic and foreign countries

Answer: 2. By dividing the nominal exchange rate by the inflation rate in the domestic country

Explanation:

The real exchange rate is calculated by dividing the nominal exchange rate by the inflation rate in the domestic country, relative to the foreign country.

Question 6. How is the real exchange rate different from the nominal exchange rate?

  1. The real exchange rate takes inflation into account, while the nominal exchange rate does not.
  2. The real exchange rate is determined by market forces, while the nominal exchange rate is set by the central bank.
  3. The real exchange rate applies to goods and services, while the nominal exchange rate applies to financial transactions.
  4. The real exchange rate only considers trade in goods, while the nominal exchange rate includes trade in services.

Answer: 1. The real exchange rate takes inflation into account, while the nominal exchange rate does not

Explanation:

The real exchange rate adjusts the nominal exchange rate to account for differences in inflation rates between two countries.

Question 7. How is the real exchange rate calculated?

  1. The nominal exchange rate multiplied by the inflation rate of the home country
  2. The nominal exchange rate multiplied by the inflation rate of the foreign country
  3. The nominal exchange rate is divided by the inflation rate of the home country.
  4. The nominal exchange rate divided by the inflation rate of the foreign country

Answer: 1. Nominal exchange rate divided by the inflation rate of the home country

Explanation:

The real exchange rate is calculated by dividing the nominal exchange rate by the inflation rate of the home country.

Question 8. What does a real exchange rate greater than 1 indicate?

  1. The home country’s goods and services are relatively more expensive than foreign goods and services.
  2. The home country’s goods and services are relatively cheaper than foreign goods and services.
  3. The nominal exchange rate has appreciated against the foreign currency.
  4. The nominal exchange rate has depreciated against the foreign currency.

Answer: 1. The home country’s goods and services are relatively more expensive than foreign goods and services.

Explanation:

A real exchange rate greater than 1 indicates that the home country’s goods and services

Question 9. What is the significance of the real exchange rate in international trade?

  1. It affects the nominal exchange rate set by the central bank.
  2. It determines the balance of trade between two countries. .
  3. It impacts the inflation rate of both countries involved in trade.
  4. It reflects the relative price levels of goods and services between two countries.

Answer: 4. It reflects the relative price levels of goods and services between two countries.

Explanation:

The real exchange rate reflects the relative price levels of goods and services between two countries, which has significant implications for international trade.

Question 10. What does the nominal exchange rate represent?

  1. The rate at which one currency can be exchanged for another currency in the foreign exchange market
  2. The rate at which a country’s central bank lends money to commercial banks
  3. The rate at which a country’s central bank buys and sells government securities.
  4. The rate at which the general price level in an economy changes over time

Answer: 1. The rate at which one currency can be exchanged for another currency in the foreign exchange market

Explanation:

The nominal exchange rate represents the rate at which one currency can be exchanged for another currency in the foreign exchange market.

Question 11. What does the real exchange rate take into account that the nominal exchange rate does not?

  1. Inflation rates of both countries
  2. Interest rates of both countries
  3. Gross domestic product (GDP) of both countries
  4. Foreign exchange reserves of both countries

Answer: 1. Inflation rates of both countries

Explanation:

The real exchange rate takes into account the inflation rates of both countries, adjusting the nominal exchange rate for differences in price levels.

Question 12. How is the real exchange rate calculated?

  1. Real exchange rate = Nominal exchange rate / Inflation rate of the domestic country
  2. Real exchange rate = Inflation rate of the domestic country / Nominal exchange rate
  3. Real exchange rate = Nominal exchange rate + Inflation rate of the domestic country
  4. Real exchange rate = Nominal exchange rate – Inflation rate of the domestic country

Answer: 1. Real exchange rate = Nominal exchange rate / Inflation rate of the domestic country

Explanation:

The real exchange rate is calculated by dividing the nominal exchange rate by the inflation rate of the domestic country.

Question 13. How does an increase in the domestic country’s inflation rate affect the real exchange rate?

  1. The real exchange rate increases
  2. The real exchange rate decreases
  3. The real exchange rate remains unchanged
  4. The real exchange rate becomes flexible and market-determined

Answer: 2. The real exchange rate decreases

Explanation:

An increase in the domestic country’s inflation rate decreases the real exchange rate because the domestic currency’s purchasing power declines relative to foreign currencies.

Question 14. Which exchange rate is more relevant for comparing the relative purchasing power of different countries?

  1. Nominal exchange rate
  2. Real exchange rate
  3. Effective exchange rate
  4. Market exchange rate

Answer: Real exchange rate

Explanation:

The real exchange rate is more relevant for comparing the relative purchasing power of different countries as it accounts for differences in price levels due to inflation.

Question 15. The nominal exchange rate is the

  1. The rate at which one currency can be exchanged for another currency in the foreign exchange market
  2. The rate at which a country’s central bank lends money to commercial banks
  3. The rate at which a country’s inflation is calculated
  4. The rate at which goods are exchanged in international trade

Answer: 1. Rate at which one currency can be exchanged for another currency in the foreign exchange market

Question 16. The real exchange rate is the nominal exchange rate adjusted for

  1. Interest rate differentials between countries
  2. Inflation differentials between countries
  3. Differences in the GDP of countries
  4. Differences in the unemployment rates of countries

Answer: 2. Inflation differentials between countries

Question 17. The real exchange rate reflects the relative purchasing power of currencies and provides information about

  1. The interest rate set by the central bank
  2. The GDP growth rate of a country
  3. The rate of inflation in a country.
  4. The relative price levels between countries

Answer: 4. The relative price levels between countries

Question 18. If the nominal exchange rate between the US dollar (US(D) and the Euro (EUR) is 1 USD = 0.85 EUR, and the inflation rate in the US is 2% while the inflation rate in the Eurozone is 1 %, which of the following represents the real exchange rate between USD and EUR?

  1. 0.85 EUR
  2. 0.8345 EUR
  3. 0.8685 EUR.
  4. 0.87 EUR

Answer: 3. 0.8685 EUR.

Question 19. An increase in a country’s inflation rate compared to its trading partners will likely lead to

  1. An appreciation of its nominal exchange rate
  2. Depreciation of its nominal exchange rate
  3. No change in its nominal exchange rate
  4. A fixed exchange rate with no fluctuations

Answer: 1. An appreciation of its nominal exchange rate

The Foreign Exchange Market

Question 1. What is the foreign exchange market?

  1. A market where foreign goods and services are traded
  2. A market where foreign currencies are bought and sold
  3. A market where foreign direct investment (FDI) takes place
  4. A market where commodities are exchanged between countries

Answer: 2. A market where foreign currencies are bought and sold

Explanation:

The foreign exchange market is a market where currencies of different countries are bought and sold, facilitating international trade and investment.

Question 2. Which of the following participants plays the most significant role in the foreign exchange market?

  1. Governments and central banks
  2. Multinational corporations
  3. Individual retail traders
  4. Stock exchanges

Answer: 1. Governments and central banks

Explanation:

Governments and central banks play a crucial role in the foreign exchange market, as they can intervene to stabilize exchange rates and influence currency movements.

Question 3. What is the primary purpose of the foreign exchange market?

  1. To facilitate international trade and investment
  2. To determine interest rates in the domestic economy
  3. To control inflation rates in the domestic economy
  4. To regulate capital flows between countries

Answer: 1. To facilitate international trade and investment

Explanation:

The primary purpose of the foreign exchange market is to facilitate the exchange of currencies to support international trade and investment.

Question 4. Which of the following is NOT a major financial center for the foreign exchange market?

  1. New York
  2. London
  3. Tokyo
  4. Sydney

Answer: 4. Sydney

Explanation:

While Sydney is an important financial center, it is not among the major financial centers for the foreign exchange market. New York, London, and Tokyo are among the key centers.

Question 5. How is the foreign exchange rate determined in the foreign exchange market?

  1. It is fixed by the International Monetary Fund (IMF)
  2. It is determined by the supply and demand for currencies in the market
  3. It is set by a group of leading central banks
  4. It is determined based on the gold standard.

Answer: 2. It is determined by the supply and demand for currencies in the market

Explanation:

The foreign exchange rate is determined by the forces of supply and demand for currencies in the foreign exchange market.

Question 6. Who are the primary participants in the foreign exchange market?

  1. Governments and central banks
  2. Domestic and foreign banks
  3. Foreign investors only
  4. Exporters and importers

Answer: 2. Domestic and foreign banks

Explanation:

Domestic and foreign banks are the primary participants in the foreign exchange market, serving as intermediaries for currency transactions.

Question 7. Which of the following is NOT a function of the foreign exchange market?

  1. Facilitating currency conversion for international trade and travel
  2. Providing a platform for governments to borrow foreign currencies
  3. Setting interest rates for domestic currencies
  4. Speculating on currency price movements

Answer: 3. Setting interest rates for domestic currencies

Explanation:

Setting interest rates for domestic currencies is not a direct function of the foreign exchange market. Interest rates are determined by central banks and monetary policies.

Question 8. What is a spot exchange rate in the foreign exchange market?

  1. The rate at which foreign currencies are bought or sold for future delivery
  2. The rate at which foreign currencies are bought or sold for immediate delivery
  3. The rate at which foreign currencies are bought or sold in the black market
  4. The rate at which foreign currencies are bought or sold by governments only

Answer: 2. The rate at which foreign currencies are bought or sold for immediate delivery

Explanation:

A spot exchange rate is the rate at which foreign currencies are bought or sold for immediate delivery, typically within two business days.

Question 9. What is a forward exchange rate in the foreign exchange market?

  1. The rate at which foreign currencies are bought or sold for immediate delivery
  2. The rate at which foreign currencies are bought or sold in the black market
  3. The rate at which foreign currencies are bought or sold for future delivery
  4. The rate at which foreign currencies are bought or sold by governments only.

Answer: 3. The rate at which foreign currencies are bought or sold for future delivery

Explanation:

A forward exchange rate is the rate at which foreign currencies are bought or sold for future delivery, typically at a specified date beyond the 1 spot date

Question 10. The foreign exchange market is a decentralized global market where currencies are traded. Which of the following participants is the most active in the foreign exchange market?

  1. Governments and central banks
  2. Commercial banks
  3. Multinational corporations
  4. Individual retail traders

Answer: 2. Commercial banks

Question 11. The foreign exchange market operates 24 hours a day, five days a week, due to

  1. The need for constant access to currency conversion services for travelers
  2. The continuous trading sessions in different time zones around the world
  3. The influence of international organizations like the World Bank
  4. Government regulations that require round-the-clock trading

Answer: 2. The continuous trading sessions in different time zones around the world

Question 12. The primary financial centers for foreign exchange trading include all of the following cities except

  1. New York
  2. London
  3. Tokyo
  4. Paris

Answer: 4. Paris

Question 13. The most commonly traded currency pair in the foreign exchange market is

  1. USD/EUR (US Dollar/Euro)
  2. USD/JPY (US Dollar/Japanese Yen)
  3. GBP/USD (British Pound/US Dollar)
  4. EUR/JPY (Euro/Japanese Yen)

Answer: 2. USD/JPY (US Dollar/Japanese Yen)

Question 14. The foreign exchange market facilitates currency trading for various purposes, including

  1. Speculation on short-term price movements
  2. Foreign direct investment (FDI)
  3. Trading of commodities like gold and silver
  4. International monetary policy coordination

Answer: 1. Speculation on short-term price movements

Determination Of Nominal Exchange Rate

Question 1. What is the nominal exchange rate?

  1. The rate at which goods and services are traded between two countries
  2. The rate at which one currency can be exchanged for another, currency in the foreign exchange market
  3. The rate at which a country’s central bank sets interest rates
  4. The rate at which a country’s central bank lends money to commercial banks

Answer: 2. The rate at which one currency can be exchanged for another currency in the foreign exchange market

Explanation:

The nominal exchange rate represents the rate at which one currency can be exchanged for another currency in the foreign exchange market.

Question 2. Which of the following factors can influence the nominal exchange rate in the short term?

  1. Relative inflation rates between two countries
  2. Relative interest rates between two countries
  3. Trade balances between two countries
  4. All of the above

Answer: 4. All of the above

Explanation:

All of the listed factors, including relative inflation rates, and relative interest. rates, and trade balances between two countries, can influence the nominal exchange rate in the short term.

Question 3. According to the purchasing power parity (PPP) theory, what will happen to the nominal exchange rate if the inflation rate is higher in one country compared to another?

  1. The nominal exchange rate will appreciate in the country with higher inflation
  2. The nominal exchange rate will depreciate in the country with higher inflation
  3. The nominal exchange rate will remain unchanged
  4. The nominal exchange rate will be determined by relative interest rates instead

Answer: 2. The nominal exchange rate will depreciate in the country with higher inflation

Explanation:

According to the PPP theory, if the inflation rate is higher in one country compared to another, the nominal exchange rate of the currency of the country with higher inflation will depreciate.

Question 4. What role do central banks play in influencing the nominal exchange rate?

  1. Central banks do not have any influence over the nominal exchange rate
  2. Central banks can directly set the nominal exchange rate
  3. Central banks can intervene in the foreign exchange market to influence the nominal exchange rate
  4. Central banks can only influence the real exchange rate, not the nominal exchange rate

Answer: 3. Central banks can intervene in the foreign exchange market to influence the nominal exchange rate

Explanation:

Central banks can intervene in the foreign exchange market by buying ‘ or selling foreign currencies to influence the nominal exchange rate and stabilize their domestic currency.

Question 5. What is the primary factor that determines the long-term trend of the nominal exchange rate?

  1. Relative interest rates between two countries
  2. Relative inflation rates between two countries
  3. Trade balances between two countries
  4. Market speculation and investor sentiment

Answer: 2. Relative inflation rates between two countries

Explanation:

The long-term trend of the nominal exchange rate is primarily determined by relative inflation rates between two countries, according to the purchasing power parity (PPP) theory.

Question 6. Which of the following factors affects the nominal exchange rate in a floating exchange rate system?

  1. Inflation rates of both countries
  2. Interest rates of both countries
  3. Gross domestic product (GDP) of both countries
  4. Exchange rate regime chosen by the countries

Answer: 1. Inflation rates of both countries

Explanation:

In a floating exchange rate system, the nominal exchange rate is influenced by the inflation rates of both countries. Higher inflation in one country relative to the other can lead to a depreciation of its currency.

Question 7. According to the purchasing power parity (PPP) theory, what will happen to the nominal exchange rate if the inflation rate is higher in one country than in another? 

  1. The nominal exchange rate will remain unchanged
  2. The nominal exchange rate will appreciate for the high-inflation country
  3. The nominal exchange rate will appreciate for the low-inflation country
  4. The nominal exchange rate will depreciate for the high-inflation country

Answer: 2. The nominal exchange rate will depreciate for the high-inflation country

Explanation:

According to the PPP theory, if the inflation rate is higher in one country than in another, the currency of the high-inflation country is expected to depreciate to maintain purchasing power parity.

Question 8. How does a trade deficit or surplus impact the nominal exchange rate?

  1. A trade deficit leads to a depreciation of the domestic currency
  2. A trade surplus leads to an appreciation of the domestic currency
  3. A trade deficit leads to an appreciation of the domestic currency
  4. A trade surplus leads to a depreciation of the domestic currency

Answer: 1. A trade deficit leads to a depreciation of the domestic currency

Explanation:

A trade deficit (where imports exceed exports) can lead to a depreciation of the domestic currency, making exports relatively cheaper and imports more expensive.

Question 9. What is the role of market participants in determining the nominal exchange rate in a floating exchange rate system?

  1. Market participants do not influence the nominal exchange rate
  2. Market participants set the nominal exchange rate unilaterally
  3. Market participants engage in buying and selling currencies, influencing demand and supply
  4. Market participants determine the nominal exchange rate based on interest rate differentials

Answer:  3. Market participants engage in buying and selling currencies, influencing demand and supply

Explanation:

In a floating exchange rate system, market participants play a significant role by engaging in buying and selling currencies, which affects the demand and supply and, in turn, influences the nominal exchange rate.

Question 10. The nominal exchange rate is determined in the foreign exchange market by the interaction of

  1. Central banks and governments of different countries
  2. Commercial banks and multinational corporations
  3. Supply and demand for currencies
  4. The World Trade Organization (WTO) and the International Monetary Fund (IMF) %

Answer: 3. Central banks and governments of different countries

Question 11. An increase in the demand for a country’s currency in the foreign exchange market will likely lead to

  1. Depreciation of its currency’s exchange rate
  2. An appreciation of its currency’s exchange rate
  3. No change in its currency’s exchange rate.
  4. A fixed exchange rate with no fluctuations

Answer: 2. An appreciation of its currency’s exchange rate

Question 12. Factors that can influence the demand for a currency in the foreign exchange market include: 

  1. Interest rate differentials between countries
  2. Differences in GDP growth rates between countries
  3. Political stability and economic performance of countries
  4. All of the above

Answer: 4. All of the above

Question 13. In a flexible exchange rate system, if a country experiences an increase in its trade deficit, the likely impact on its currency’s exchange rate will be:

  1. An appreciation of the currency
  2. A depreciation of the currency
  3. No change in the currency’s exchange rate
  4. A fixed exchange rate with no fluctuations

Answer: 2. A depreciation of the currency

Question 14. The nominal exchange rate can be influenced by various speculative activities in the foreign exchange market. This type of trading is often driven by expectations of

  1. Central bank interventions
  2. Future inflation rates in the country
  3. Political events and economic indicators
  4. A fixed exchange rate system

Answer: 3. Political events and economic indicators

Changes In Exchange Rates

Question 1. What causes changes in exchange rates in a floating exchange rate system?

  1. Changes in interest rates only
  2. Changes in inflation rates only
  3. Changes in demand and supply of currencies
  4. Changes in government regulations on trade

Answer: 3. Changes in demand and supply of currencies

Explanation:

In a floating exchange rate system, changes in the demand and supply of currencies in the foreign exchange market lead to changes in exchange rates.

Question 2. How does an increase in demand for a currency affect its exchange rate?

  1. The exchange rate depreciates
  2. The exchange rate appreciates
  3. The exchange rate remains unchanged
  4. The exchange rate fluctuates wildly

Answer: 2. The exchange rate appreciates

Explanation:

An increase in demand for a currency causes its value to rise, leading to an appreciation of the exchange rate.

Question 3. If the U.S. dollar depreciates against the euro, how will this impact U.S. exports to the Eurozone?

  1. U.S. exports will increase as they become cheaper for Eurozone consumers
  2. U.S. exports will decrease as they become more expensive for Eurozone consumers
  3. U.S. exports will remain unchanged as exchange rate changes do not affect trade
  4. U.S. exports will decrease due to higher inflation in the Eurozone
  5. Answer: 1. U.S. exports will increase as they become cheaper for Eurozone consumers

Explanation:

A depreciation of the U.S. dollar against the euro makes U.S. goods and services relatively cheaper for Eurozone consumers, leading to an increase in U.S. exports.

Question 4. What is the impact of an increase in interest rates in a country on its exchange rate? 

  1. The exchange rate appreciates
  2. The exchange rate depreciates
  3. The exchange rate remains unchanged
  4. The impact on the exchange rate cannot be determined from the information given

Answer: 1. The exchange rate appreciates

Explanation:

An increase in interest rates in a country attracts foreign investment, leading to an increase in demand for its currency and causing the exchange rate to appreciate.

Question 5. How does political stability in a country affect its exchange rate?

  1. Political stability has no impact on the exchange rate
  2. Political stability leads to a depreciation of the domestic currency
  3. Political stability leads to an appreciation of the domestic currency
  4. Political stability leads to fluctuations in the exchange rate

Answer: 3. Political stability leads to an appreciation of the domestic currency

Explanation:

Political stability in a country is viewed positively by investors, leading to increased confidence in the domestic economy and a higher demand for its currency, causing it to appreciate.

Question 6. If the demand for a country’s currency increases in the foreign exchange market, what is the likely effect on its exchange rate?

  1. The exchange rate will appreciate
  2. The exchange rate will depreciate
  3. The exchange rate will remain unchanged
  4. The exchange rate will fluctuate randomly

Answer: 1. The exchange rate will appreciate

Explanation:

An increase in demand for a country’s currency in the foreign exchange market will lead to an appreciation of its exchange rate.

Question 7. How do changes in interest rates affect exchange rates?

  1. Higher interest rates lead to currency appreciation.
  2. Higher interest rates lead to currency depreciation
  3. Interest rates have no impact on exchange rates.
  4. Interest rates cause fluctuations in exchange rates but do not affect the overall trend

Answer: 1. Higher interest rates lead to currency appreciation

Explanation:

Higher interest rates generally attract foreign investors, leading to an increase in demand for a country’s currency and, consequently, currency appreciation.

Question 8. What is a speculative attack on a currency?

  1. A sudden increase in the value of a currency due to .speculative trading
  2. A sudden decrease in the value of a currency due to speculative trading
  3. A coordinated effort by governments to manipulate a currency’s value
  4. A change in the exchange rate regime from fixed to floating

Answer: 1. A sudden decrease in the value of a currency due to speculative trading

Explanation:

A speculative attack on a currency occurs when speculators sell a country’s currency in large volumes, causing its value to rapidly decrease in the foreign exchange market.

Question 9. How do geopolitical events and economic indicators impact exchange rates?

  1. They have no impact on exchange rates
  2. They cause temporary fluctuations, but the overall trend remains unaffected
  3. They can cause significant and lasting changes in exchange rates
  4. They only impact exchange rates in fixed exchange rate systems

Answer: 3. They can cause significant and lasting changes in exchange rates

Explanation:

Geopolitical events and economic indicators can have a significant, impact on investor confidence and sentiment, leading to lasting changes in exchange rates, especially in floating exchange rate
systems.

Question 10. A currency’s exchange rate can change due to various factors. Which of the following is NOT a factor that can influence changes in exchange rates? 

  1. Interest rate differentials between countries
  2. Political stability and economic performance of countries
  3. The World Trade Organization (WTO) regulations
  4. Speculative activities in the foreign exchange market

Answer: 3. The World Trade Organization (WTO) regulations

Question 11. In a flexible exchange rate system, an increase in the demand for a country’s goods and services in international markets is likely to result in

  1. An appreciation of the country’s currency
  2. A depreciation of the country’s currency
  3. No change in the country’s currency value
  4. A fixed exchange rate with no fluctuations

Answer: 1. An appreciation of the country’s currency

Question 12. Changes in exchange rates can have various effects on a country’s economy. An appreciation of the domestic currency can benefit the economy by

  1. Making imports cheaper and boosting domestic consumption
  2. Making exports more expensive and reducing trade competitiveness
  3. Encouraging foreign direct investment (FDI) from other countries
  4. Reducing interest rates and stimulating investment and borrowing

Answer: 2. Making exports more expensive and reducing trade competitiveness

Question 13. If a country’s currency depreciates significantly, it may lead to a potential risk of

  1. Lower inflation and increased purchasing power for consumers
  2. Capital flight and loss of foreign investor confidence
  3. Trade surplus and increased exports
  4. Lower interest rates and increased investment

Answer: 2. Capital flight and loss of foreign investor confidence

Question 14. A sudden and significant change in exchange rates caused by unexpected economic or political events is known as

  1. A currency board system
  2. Exchange rate volatility
  3. A fixed exchange rate regime.
  4. Purchasing power parity (PPP)

Answer:  2. Exchange rate volatility

Devaluation (Revaluation) Vs Depreciation (Appreciation)

Question 1. What is the devaluation of a currency?

  1. A decrease in the value of a currency relative to other currencies under a fixed exchange rate system
  2. An increase in the value of a currency relative to other currencies under a floating exchange rate system
  3. A decrease in the value of a currency relative to other currencies under a floating exchange rate system
  4. An increase in the value of a currency relative to other currencies under a fixed exchange rate system

Answer: 4. A decrease in the value of a currency relative to other currencies under a fixed exchange rate system

Explanation:

Devaluation refers to a deliberate decrease in the value of a currency relative to other currencies, typically carried out by the government under a fixed exchange rate system.

Question 2. What is a revaluation of a currency?

  1. A decrease in the value of a currency relative to other currencies under a floating exchange rate system
  2. An increase in the value of a currency relative to other currencies under a fixed exchange rate system
  3. An increase in the value of a currency relative to other currencies under a floating exchange rate system
  4. A decrease in the value of a currency relative to other currencies under a fixed exchange rate system

Answer: 2. An increase in the value of a currency relative to other currencies under a fixed exchange rate system

Explanation:

Revaluation refers to a deliberate increase in the value of a currency relative to other currencies, typically carried out by the government under a fixed exchange rate system.

Question 3. What is the depreciation of a currency

  1. A decrease in the value of a currency relative to other currencies under a fixed exchange rate system
  2. An increase in the value of a currency relative to other currencies under a floating exchange rate system
  3. A decrease in the value of a currency relative to other currencies under a floating exchange rate system
  4. An increase in the value of a currency relative to other currencies under a fixed exchange rate system

Answer: 2. A decrease in the value of a currency relative to other currencies under a floating exchange rate system

Explanation:

Depreciation refers to a decrease in the value of a currency relative to other currencies in a floating exchange rate system.

Question 4. What is an appreciation of a currency?

  1. A decrease in the value of a currency relative to other currencies under a floating exchange rate system
  2. An increase in the value of a currency relative to other currencies under a fixed exchange rate system
  3. An increase in the value of a currency relative to other currencies under a floating exchange rate system *
  4. A decrease in the value of a currency relative to other currencies under a fixed exchange rate system _

Answer: 3. An increase in the value of a currency relative to other currencies under a floating exchange rate system

Explanation:

Appreciation refers to an increase in the value of a currency relative to other currencies in a floating exchange rate system.

Question 5. Which of the following is typically used as a policy measure to devalue or revalue a currency?

  1. Changing interest rates
  2. Buying or selling foreign currencies in the foreign exchange market
  3. Implementing capital controls
  4. Imposing tariffs on imports

Answer: 3. Buying or selling foreign currencies in the foreign exchange market

Explanation:

Governments can devalue or revalue a currency by buying or selling foreign currencies in the foreign exchange market to influence the exchange rate.

Question 6. What is a revaluation of a currency?

  1. A decrease in the value of a country’s currency relative to other currencies due to market forces
  2. An increase in the value of a country’s currency relative to other currencies due to market forces
  3. A decrease in the value of a country’s currency relative to other currencies deliberately set by the government
  4. An increase in the value of a country’s currency relative to other currencies deliberately set by the government

Answer: 4. An increase in the value of a country’s currency relative to other currencies deliberately set by the government

Explanation:

Revaluation is the deliberate increase in the value of a country’s currency relative to other currencies by the government or central bank.

Question 7. What is the depreciation of a currency?

  1. A decrease in the value of a country’s currency relative to other currencies due to market forces
  2. An increase in the value of a country’s currency relative to other currencies due to market forces
  3. A decrease in the value of a country’s currency relative to other currencies deliberately set by the government
  4. An increase in the value of a country’s currency relative to other currencies deliberately set by the government

Answer: 1. A decrease in the value of a country’s currency relative to other currencies due to market forces

Explanation:

Depreciation is the decrease in the value of a country’s currency relative to other currencies due to market forces such as supply and demand in the foreign exchange market.

Question 8. What is an appreciation of a currency?

  1. A decrease in the value of a country’s currency relative to other currencies due to market forces
  2. An increase in the value of a country’s currency relative to other currencies due to market forces
  3. A decrease in the value of a country’s currency relative to other currencies deliberately set by the government
  4. An increase in the value of a country’s currency relative to other currencies deliberately set by the government

Answer:  2. An increase in the value of a country’s currency relative to other currencies due to market forces

Explanation:

Appreciation is the increase in the value of a country’s currency relative to other currencies due to market forces such as increased demand in the foreign exchange market.

Question 9. Which of the following is an example of a government policy that can lead to devaluation? 

  1. Lowering interest rates
  2. Implementing fiscal austerity measures
  3. Introducing capital controls
  4. Selling foreign exchange reserves

Answer: 4. Selling foreign exchange reserves

Explanation:

A government can devalue its currency by deliberately selling its foreign exchange reserves in the foreign exchange market to increase the supply of its currency and lower its value.

Question 10. Devaluation and revaluation refer to changes in the exchange rate set by

  1. Commercial banks in the foreign exchange market
  2. Market forces of supply and demand
  3. Government authorities and central banks
  4. The International Monetary Fund (IMF)

Answer: 3. Government authorities and central banks

Question 11. Devaluation of a currency is a deliberate decision by a country’s central bank to

  1. Increase the value of its currency in the foreign exchange market
  2. Lower the value of its currency in the foreign exchange market
  3. Peg its currency to a foreign currency at a fixed rate
  4. Allow its currency to float freely without intervention

Answer: 2. Lower the value of its currency in the foreign exchange market

Question 12. Revaluation of a currency is a deliberate decision by a country’s central bank to

  1. Increase the value of its currency in the foreign exchange market
  2. Lower the value of its currency in the foreign exchange market
  3. Peg its currency to a foreign currency at a fixed rate
  4. Allow its currency to float freely without intervention

Answer: 1. Increase the value of its currency in the foreign exchange market

Question 13. Depreciation of a currency is a change in the exchange rate that occurs due to

  1. Market forces of supply and demand in the foreign exchange market
  2. Frequent government interventions in the foreign exchange market
  3. Fixed exchange rate systems implemented by central banks
  4. The World Trade Organization (WTO) regulations

Answer: 1. Market forces of supply and demand in the foreign exchange market

Question 14. Appreciation of a currency is a change in the exchange rate that occurs due to

  1. Market forces of supply and demand in the foreign exchange market
  2. Frequent government interventions in the foreign exchange market
  3. Fixed exchange rate systems implemented by central banks
  4. The World Trade Organization (WTO) regulations

Answer: 1. Market forces of supply and demand in the foreign exchange market

Impacts of Exchange Rate Fluctuations On Domestic Economy

Question 1. How does currency depreciation impact a country’s exports?

  1. It makes exports more expensive for foreign buyers, reducing export competitiveness
  2. It makes exports cheaper for foreign buyers, increasing export competitiveness
  3. It has no impact on exports
  4. It only impacts the quantity of exports, not the price

Answer: 1. It makes exports cheaper for foreign buyers, increasing export competitiveness

Explanation:

Currency depreciation makes a country’s exports cheaper in foreign markets, which can increase export competitiveness and potentially lead to higher export volumes.

Question 2. What effect does currency appreciation have on a country’s imports?

  1. It makes imports more expensive, reducing import volumes
  2. It makes imports cheaper, increasing import volumes
  3. It has no impact on imports
  4. It only impacts the quantity of imports, not the price

Answer: 1. It makes imports more expensive, reducing import volumes

Explanation:

Currency appreciation makes imports more expensive in the domestic market, leading to a potential reduction in import volumes.

Question 3. How does a weaker domestic currency (depreciation) affect inflation in the country?

  1. It leads to higher inflation due to increased import costs
  2. It leads to lower inflation due to reduced import costs
  3. It has no impact on inflation
  4. It only impacts inflation in the long term, not the short term.

Answer: 1. It leads to higher inflation due to increased import costs

Explanation:

Currency depreciation leads to higher inflation as the cost of imports increases, and these higher costs are often passed on to consumers in the form of higher prices for imported goods. .

Question 4. How does exchange rate volatility impact foreign direct investment (FDI)?

  1. It encourages FDI by reducing uncertainty for investors
  2. It discourages FDI due to increased risk and uncertainty
  3. It has no impact on FDI.
  4. It only affects FDI from certain countries, not all investors

Answer: 2. It discourages FDI due to increased risk and uncertainty

Explanation:

Exchange rate volatility can create uncertainty for investors, making them hesitant to invest in a country with an unstable currency value.

Question 5. What is the impact of exchange rate fluctuations on a country’s balance of trade (trade balance)?

  1. It has no impact on the trade balance
  2. It always leads to a trade surplus
  3. It always leads to a trade deficit
  4. It can lead to either a trade surplus or a trade deficit depending on other factors

Answer: 4. It can lead to either a trade surplus or a trade deficit depending on other factors

Explanation:

Exchange rate fluctuations can impact the trade balance in either direction. Currency depreciation may lead to a trade surplus by increasing export competitiveness, while currency appreciation may lead to a trade deficit by making imports cheaper.

Question 6. How does currency depreciation impact a country’s imports?

  1. Imports increase as foreign goods become cheaper for domestic buyers
  2. Imports decrease as foreign goods become more expensive for domestic buyers
  3. Imports remain unchanged as foreign goods maintain the same price for domestic buyers
  4. Imports are not affected by exchange rate fluctuations

Answer: Imports decrease as foreign goods become more expensive for domestic buyers

Explanation:

Currency depreciation makes foreign goods more expensive for domestic buyers, leading to a decrease in imports as domestic consumers may reduce purchases of costly foreign goods.

Question 7. What is the impact of currency appreciation on a country’s inflation rate?

  1. Inflation rate increases as imported goods become cheaper
  2. Inflation rate decreases as imported goods become cheaper
  3. Inflation rate remains unchanged as imported goods maintain the same price
  4. The inflation rate is not affected by exchange rate fluctuations

Answer: 1. Inflation rate increases as imported goods become cheaper

Explanation:

Currency appreciation makes imported goods cheaper for domestic buyers, leading to a decrease in the prices of imported goods and potentially increasing overall domestic consumption and inflation.

Question 8. How do exchange rate fluctuations affect the tourism industry?

  1. Exchange rate fluctuations have no impact on the tourism industry
  2. Depreciation of the domestic currency attracts more foreign tourists
  3. Appreciation of the domestic currency attracts more foreign tourists
  4. Exchange rate fluctuations only affect business travel, not tourism

Answer: 2. Depreciation of the domestic currency attracts more foreign tourists

Explanation:

Depreciation of the domestic currency makes the country’s tourism offerings more affordable for foreign tourists, leading to an increase in inbound tourism.

Question 9. What is the impact of exchange rate volatility on foreign direct investments (FDI)?

  1. Exchange rate volatility has no impact on FDI
  2. FDI increases as investors seek to benefit from exchange rate fluctuations.
  3. FDI decreases as investors perceive higher risks due to exchange rate uncertainty
  4. Exchange rate volatility only affects portfolio investments, not FDI

Answer: 3. FDI decreases as investors perceive higher risks due to exchange rate uncertainty

Explanation:

Exchange rate volatility can create uncertainty for investors, leading to reduced foreign direct investments as investors. may be hesitant to commit capital in an uncertain exchange rate environment.

Question 10. A depreciation of the domestic currency can have a positive impact on the domestic economy by

  1. Making imports cheaper and stimulating domestic consumption
  2. Making exports more expensive and reducing trade competitiveness
  3. Encouraging foreign direct investment (FDI) from other countries
  4. Reducing interest rates and stimulating investment and borrowing

Answer: 1.  Making imports cheaper and stimulating domestic consumption

Question 11. An appreciation of the domestic currency can negatively affect the domestic economy by

  1. Making imports more expensive and reducing domestic consumption
  2. Making exports cheaper and boosting trade competitiveness
  3. Attracting more foreign direct investment (FDI) to the country
  4. Increasing interest rates and reducing investment and borrowing

Answer: 1.  Making imports more expensive and reducing domestic consumption

Question 12. Exchange rate fluctuations can impact inflation in the domestic economy. A depreciation of the domestic currency is likely to result in

  1. Higher inflation, as imported goods become more expensive
  2. Lower inflation, as imported goods become more affordable
  3. No impact on inflation, as exchange rates do not affect prices
  4. A fixed exchange rate with no fluctuations

Answer: 1. Higher inflation, as imported goods become more expensive

Question 13. A depreciation of the domestic currency can benefit domestic producers by

  1. Increasing the cost of imported raw materials and inputs
  2. Making domestic goods more expensive for foreign buyers
  3. Reducing the competitiveness of domestic goods in foreign markets
  4. Encouraging imports and discouraging domestic production

Answer: 2. Making domestic goods more expensive for foreign buyers

Question 14. The impact of exchange rate fluctuations on the domestic economy can vary depending on the country’s level of economic openness. In a highly open economy, exchange rate fluctuations are likely to have a more significant impact on

  1. Government spending and fiscal policy
  2. Unemployment and labor market conditions
  3. International trade and export-import dynamics
  4. Interest rates and monetary policy decisions

Answer: 3. International trade and export-import dynamics

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