Question

(TCO G) Let the exchange rate be defined as the number of dollars per Japanese yen. Assume there is an increase in U.S. interest rates relative to that of Japan. (30 points)

(Part A) Would this event cause the demand for the dollar to increase or decrease relative to the demand for the yen? Why? (5 points)

(Part B) Has the dollar appreciated or depreciated in value relative to the yen? (5 points)

(Part C) Does this change in the value of the dollar make imports cheaper or more expensive for Americans? Are American exports cheaper or more expensive for importers of U.S. goods in Japan? Illustrate by showing the price of a U.S. e-reader in Japan before and after the change in the exchange rate. (10 points)

(Part D) If you had a business exporting goods to Japan, and U.S. interest rates rose as they have in this example, would you plan to expand production or cut back? Why? (10 points)

Answer 1

PART A

The increased interest rates in US would definitely cause the demand for dollar to increase because if interest rates are high for dollar, investors will be attracted to invest more in dollar to earn more returns on their investments. Although there are several other factors as well but increased interest has an effect of increased value of the dollar.

PART B

Dollar has appreciated in relation to Yen because its demand in international market has increased due to higher interest rates.

PART C

This change in the value of dollar make imports cheaper for Americans as they will have to pay less in dollars for the same amount of goods as compared to earlier.       

If the dollar’s value increases in the international market, it can be converted to other currencies for a more amount of them. Suppose if $1 was for 50 Indian Rupees earlier and now it is 60. So Americans can buy more from India with the same amount of dollar. So that makes imports cheaper for Americans. For importers of American goods in Japan, the imports would be more costly as the value of US dollar has increased.

Suppose earlier 1$ was equal to 70 Yen and the cost of Amazon Kindle is $120 which means 8400 Yen and now because of increased interest rates in the US, 1$ is for 120 Yen. So now it would be priced at 14,400 Yen which makes the import of Kindle more expensive in Japan.

PART D

As we can see the prices of US dollar has risen because of increased interest rates in US, I will definitely expand the production of goods to Japan because I will get more for my products than earlier. So to earn more money to increase my profits I will definitely expand the production.