Key Concepts
Discussion and Review Questions
Learning Objective 28.1 See the connections between the domestic economy and the global economy.
What are the factors that led international trade and global financial flows to rise over recent decades? Do you expect international trade and global financial flows to continue to grow? Why or why not?
Americans own almost three times as many foreign assets as they did four decades ago. Some people worry that this makes Americans more vulnerable to the ups and downs in the economies of other countries, while others argue that Americans are more protected against risks. Assess which of these arguments you find more persuasive. (Hint: Consider the macroeconomic perspective and the risk management perspective.)
Learning Objective 28.2 Analyze prices that are quoted in different currencies.
Think about your favorite country, and search online for its exchange rate. What is its nominal exchange rate—that is, the price of its currency in terms of U.S. dollars? Has the currency appreciated or depreciated relative to the U.S. dollar over the course of the past year? Are imports to this country more or less expensive than a year ago? Explain your reasoning.
Learning Objective 28.3 Analyze the market for currencies and forecast the nominal exchange rate.
In 2019, the United States enacted trade barriers to restrict imports from China. Use the three-step recipe for forecasting exchange rate movements to explain how you expect the price of the U.S. dollar in yuan to respond to these trade barriers. Chinese policy makers responded by enacting tariffs against U.S. exports to China. How do you think this response affected the price of the U.S. dollar in yuan?
Learning Objective 28.4 Assess how exchange rates and relative prices affect exports and imports.
Technology-driven improvements in farm productivity led the cost of growing soybeans in the United States to fall, leading U.S. farmers to cut their prices. If the nominal exchange rate is unchanged, what will this mean for the U.S. real exchange rate?
You and your friend decide to backpack around Europe. You’ve been debating whether Europe or the United States is more expensive. She spies a McDonald’s and says that she can prove that Europe is more expensive by comparing the price of a Big Mac in Paris with what it costs in your college town of Madison, Wisconsin. How would you go about comparing these two prices? Why would this information help inform your debate?
Learning Objective 28.5 Track how money flows around the world using the current account and the financial account.
At a family gathering, one of your cousins says, “We spend so much more on imports than other countries spend on our exports. It isn’t fair and we should raise tariffs on imports to reduce how much we buy from other countries.” How would you explain to your cousin that current account deficits aren’t necessarily a sign of economic troubles to come? Think of the best way to describe this intuitively to someone who may not have taken an economics course before. What effect would her policy suggestion—raising tariffs on imports—have on the current account and the financial account? What would happen if our trading partners retaliated by then raising tariffs on goods exported from the United States?
Study Problems
Learning Objective 28.1 See the connections between the domestic economy and the global economy.
The following graph depicts Japanese imports and exports.
Data from: World Bank.
Describe the general trend in imports and exports for Japan since 2000.
In which years did Japan run a trade surplus? A trade deficit?
Determine whether each of the following is an example of an import, export, financial inflow, or financial outflow. If it is a financial flow, is it an example of foreign direct investment or portfolio investment?
Tesla began building a factory dedicated to large-scale production of batteries in Shanghai.
A German business pays an American consultant for financial advice.
An American family spends $2,000 on hotels and meals while taking a vacation in London.
U.S. oil refineries purchased US$53 billion of crude petroleum from Canadian oil companies.
You sell a hand-knitted scarf on Etsy to a woman who lives in France.
A saver in Mexico purchases $100 in U.S. government bonds.
Learning Objective 28.2 Analyze prices that are quoted in different currencies.
Theresa, who lives in the United States, finds a jacket she really wants to buy, but it is only available from Amazon UK, where it is selling for £65. Luckily the seller is willing to ship internationally for an additional £10. If the exchange rate is US$1 for £0.75, how much does the jacket cost in U.S. dollars?
You just spent two weeks in Guatemala on vacation. Your trip is over, and you realize that you overestimated how much local cash you would need while in Guatemala. Now you want to convert your remaining 1,500 Guatemalan quetzal (GTQ) back to U.S. dollars. The exchange rate is US$1 for 7.5 GTQ. How many U.S. dollars will you receive?
Consider the following graph of the U.S./Euro nominal exchange rate.
Data from: Federal Reserve Bank of St. Louis.
If you traveled to Europe in 2013 and converted US$1,000 to euros, how many euros would you get? What if you were traveling in 2016?
Did the U.S. dollar appreciate or depreciate relative to the euro between 2013 and 2016?
Learning Objective 28.3 Analyze the market for currencies and forecast the nominal exchange rate.
What happens to the amount Americans pay for imported goods if the price of the U.S. dollar depreciates? Will Americans import more or less goods if the U.S. dollar depreciates?
How does a recession in Japan affect the market for U.S. dollars? What do you expect will happen to the price of a U.S. dollar in yen? Illustrate your answer with a graph.
If the U.S. Federal Reserve unexpectedly cuts the interest rate, what effect do you expect this will have on the U.S. dollar?
Learning Objective 28.4 Assess how exchange rates and relative prices affect exports and imports.
You are a purchasing manager for General Electric and need to decide whether you should buy stainless steel from a supplier in China or source it from a foundry in Pittsburgh. If you buy it from the Pittsburgh foundry, you’ll pay $3,000 per metric ton. If you buy from China, you’ll pay 14,000 yuan per metric ton. Both prices include transportation costs. The nominal exchange rate is US$1 for 7 yuan.
Calculate the real exchange rate—the price of domestic steel in dollars, relative to the price of imported steel converted into dollars—and use this to decide whether you should buy the domestic or imported steel.
A rise in the cost of Chinese labor leads to a rise in the price of Chinese steel to 28,000 yuan per metric ton. The nominal exchange rate is still US$1 for 7 yuan. What has happened to the real exchange rate? Does this make it more or less likely that General Electric purchases steel from the foundry in Pittsburgh?
Learning Objective 28.5 Track how money flows around the world using the current account and the financial account.
In 2018, Germany had the world’s largest current account surplus of US$291 billion. Using this one piece of information, answer the following questions.
Which was greater, the income Germans earned from abroad or incomes paid abroad from Germany?
What is Germany’s financial account balance? Is it a surplus or deficit?
Were financial inflows or financial outflows greater for Germany?
Was total spending or total income greater in Germany in 2018?