2002 AP Macro Exam (Question 3)
Go to Learn, I'm talking to you Jayne/Jane.
(a) How & why will capital flows be affected by this change in Real Interest Rates?
If the RIR increases in the US then the Japanese will want to buy US dollars in the FOREX market to be able to purchase the higher interest rate assets. Capital will flow toward the US in hopes of gaining profits from being paid the higher interest rates.
(b) Using a CLG for the Yen market, show an explain how the value of the yen will change relative to the value of the dollar.
As the RIR in the US increases, the Japanese hunting higher profits and better returns will sell their Yen in the FOREX market for US dollars. This causes their to be an increase in the supply of ¥ in the FOREX market. A larger supply of ¥ will cause the value of the ¥ to decrease in value relative to the US dollar.
(c) Explain how a change in the value of the Yen (¥) will affect each of the following in the US.
(i) Imports from Japan
(ii) Exports to Japan
If the RIR's in the US are increasing then the Japanese are dumping their ¥ in the FOREX market and buying US $, and therefore the demand for the US $ is increasing the value of the US dollar. A strong (appreciating value) dollar means that Americans citizens can purchase more Japanese imports. The increasing value of the dollar makes Japanese goods seem relatively less expensive than US goods. (Imports increase)
A strong $ would make US goods appear relatively more expensive to the Japanese and therefore less exports will be bought by the Japanese. (Exports Decrease)
What did I get on the AP exam?