Question

Suppose you are given the domestic prices of three items (shoes, watches, and dishwashers) in the US and India.

Items US (dollars) India (rupees)

Shoes 20 80

Watches 40 180

Dishwashers 80 600

The current spot rate between rupees and US dollars is: S(INR/USD) = 5, and there are no transportation/transaction costs. Given the previous information, India will import

a) shoes and watches and the US will import dishwashers

b) shoes only and the US will import watches and dishwashers

c) all three items

d) dishwashers, and the US will import shoes and watches

Choose one of the answers above and provide explanation.

Answer 1

d) dishwashers, and the US will import shoes and watches

EXPLANATION-

INR/USD = 5

IF INDIA IMPORTS DISHWASHER

MONEY PAID TO US EXPORTER = 80 x 5 = 400 RS

COST OF DISHWASHER IN INDIA = 600 RS

THEREFORE INDIA WILL IMPORT

SIMILARLY

US IMPORTER WILL IMPORT

SHOES AND WATCHES

MONEY PAID BY US EXPORTER FOR SHOES = 80/ 5 = $16

COST OF SHOES IN US = $20

MONEY PAID BY US EXPORTER FOR WATCHES = 180/ 5 = $36

COST OF SHOES IN US = $40

THEREFORE US IMPORTER WILL IMPORT