Finance 475

Problem Set #6

1)      Suppose that the U.S. and the U.K are both following a gold standard.  The dollar is pegged to gold at a price of $35 per ounce.  If Britain maintains a L25 price of gold, what should the exchange rate between the US and Britain be?

2)      Assuming that the U.S. is operation under a Gold standard, explain the impact of  the following events.

a)      New gold deposits are discovered in Alaska. (Hint: what happens to the price of gold?)

b)      Expansion of electronics industry increases the demand for gold. (Hint: what happens to the price of gold?)

c)      The US runs a trade deficit

3)      Recently, the Dollar has been depreciating against the Euro (in fact, the Euro is worth 30% more dollars today than it was a year ago).

a)      Explain how an intervention in defense of the Dollar by the Federal Reserve affects its balance sheets.

b)      What effect does this intervention have on the money supply? How would the Fed “Sterilize” this intervention?

4)      Suppose that Saudi Arabia is following a policy of pegging the Riyal to the dollar. Explain the actions needed by the Saudi central bank in the long run (i.e. prices are flexible) under the following circumstances.

a)      Saudi Arabia fell into a recession. 

b)      What should Saudi Arabia do if new oil deposits were discovered, causing world oil prices to fall. 

c)      What can we say about fixed exchange rate regimes in the long run?

5)      Suppose that Brazil is pegging to the dollar. Explain the actions required of the Bank of Brazil in the short run (i.e. prices are fixed)

a)    Brazil fell into a recession (capital is mobile).

b)   Brazil fell into a recession (capital is immobile). 

            c) What can we say about the sustainability of fixed exchange regimes in the short run?