Question

5. Exchange rates and the demand for domestic goods

Piano Palace Co. produces electronic keyboards in the United States. Its most popular keyboard sells for $1,400. KeySharp Co., Piano Palace's primary competitor, is based in Germany and sells keyboards to US customers online. KeySharp sells its keyboards for 825 euros.

Suppose that initially, the exchange rate was $1.60 per euro.

This means that the price of KeySharp’s keyboards to US consumers was 825 euros ×$1.60 per euro =$1,320.

This means that the price of KeySharp’s keyboards to US consumers was _____?

. Because this dollar price of keyboards from KeySharp is(lower or higher)______________ than the dollar price of keyboards from Piano Palace, demand for Piano Palace keyboards is likely(high, low , higher)______ relative to KeySharp’s keyboards in the United States.

Now suppose that the euro weakens relative to the dollar, and the exchange rate changes to $2.00

After this change, the price of KeySharp’s keyboards to US consumers is _______?

. Because this dollar price of keyboards from KeySharp is now (lower or higher
) _________ than the dollar price of keyboards from Piano Palace, demand for Piano Palace keyboards is likely(rise or fall)_______ relative to KeySharp’s keyboards in the United States, due to the change in the exchange rate.

Suppose that Piano Palace not only sells keyboards in the United States but also exports and sells them to France (another country in the eurozone).

When the euro was $1.60, consumers in France paid _______?

euros for keyboards from Piano Palace. At this exchange rate, the euro price of Piano Palace keyboards was (lower or higher)_______ than that of KeySharp keyboards. However, at the newer exchange rate, the euro price of Piano Palace keyboards is now_____?

. This would cause French consumers to increase demand for (KeySharp keyboards, relative to Piano Palace keyboards OR Piano Palace keyboards, relative to KeySharp keyboards)

.

Generalizing from the results of this fictionalized scenario, when other currencies are weak against the dollar, US imports should be relatively (high or low)_____ , while US exports should be relatively (low or high)_____ , leading to a(more or less)_____ favorable position in terms of the balance of trade.

Answer 1

This means that the price of KeySharp’s keyboards to US consumers was $1320 (825 * 1.60)

. Because this dollar price of keyboards from KeySharp is Lower than the dollar price of keyboards from Piano Palace, demand for Piano Palace keyboards is likely lower relative to KeySharp’s keyboards in the United States.

Now suppose that the euro weakens relative to the dollar, and the exchange rate changes to $2.00

After this change, the price of KeySharp’s keyboards to US consumers is $1650 (825 * 2)

. Because this dollar price of keyboards from KeySharp is now higher than the dollar price of keyboards from Piano Palace, demand for Piano Palace keyboards is likely Rise relative to KeySharp’s keyboards in the United States, due to the change in the exchange rate.

Suppose that Piano Palace not only sells keyboards in the United States but also exports and sells them to France (another country in the eurozone).

When the euro was $1.60, consumers in France paid Euro 875 (1400/1.60) euros for keyboards from Piano Palace. At this exchange rate, the euro price of Piano Palace keyboards was Higher than that of KeySharp keyboards. However, at the newer exchange rate, the euro price of Piano Palace keyboards is now Euro 700 (1400 /2.00). This would cause French consumers to increase demand for Piano Palace keyboards, relative to KeySharp keyboards.

Generalizing from the results of this fictionalized scenario, when other currencies are weak against the dollar, US imports should be relatively low, while US exports should be relatively high, leading to a more favorable position in terms of the balance of trade.