Explain the automatic mechanism by which BOP equilibrium was achieved under the gold standard.

Introductory Macroeconomics

Book: Introductory Macroeconomics

Chapter: 6. Open Economy Macroeconomics

Subject: Social Science - Class 12^th

Q. No. 5 of Exercises

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5

Explain the automatic mechanism by which BOP equilibrium was achieved under the gold standard.

Under Gold Standard System gold was taken as a common unit to measure the currencies of other countries, which means the value of every currency was defined in terms of gold.

The exchange rate in open market was determined by it's worth in terms of the value of gold. However the upper and lower limits were fixed within which it fluctuated.

Under Gold Standard System the exchange rates became stable and all countries maintained a proper stock of gold so as to exchange currency.

5

1

Differentiate between balance of trade and current account balance.

2

What are official reserve transactions? Explain their importance in the balance of payments.

3

Distinguish between the nominal exchange rate and the real exchange rate. If you were to decide whether to buy domestic goods or foreign goods, which rate would be more relevant? Explain.

4

Suppose it takes 1.25 yen to buy a rupee, and the price level in Japan is 3 and the price level in India is 1.2. Calculate the real exchange rate between India and Japan (the price of Japanese goods in terms of Indian goods). (Hint: First find out the nominal exchange rate as a price of yen in rupees).

5

Explain the automatic mechanism by which BOP equilibrium was achieved under the gold standard.

6

How is the exchange rate determined under a flexible exchange rate regime?

7

Differentiate between devaluation and depreciation.

8

Would the central bank need to intervene in a managed floating system? Explain why.

9

Are the concepts of demand for domestic goods and domestic demand for goods the same?

10

What is the marginal propensity to import when M = 60 + 0.06Y? What is the relationship between the marginal propensity to import and the aggregate demand function?

11

Why is the open economy autonomous expenditure multiplier smaller than the closed economy one?

12

Calculate the open economy multiplier with proportional taxes, T = tY, instead of lump-sum taxes as assumed in the text.

13

Suppose C = 40 + 0.8Y D, T = 50, I = 60, G = 40, X = 90, M = 50 + 0.05Y (a) Find equilibrium income. (b) Find the net export balance at equilibrium income (c) What happens to equilibrium income and the net export balance when the government purchases increase from 40 and 50?

14

In the above example, if exports change to X = 100, find the change in equilibrium income and the net export balance.

15

Explain why G – T = (S^p – I) – (X – M).

16

If inflation is higher in country A than in Country B, and the exchange rate between the two countries is fixed, what is likely to happen to the trade balance between the two countries?

17

Should a current account deficit be a cause for alarm? Explain.

18

Suppose C = 100 + 0.75Y D, I = 500, G = 750, taxes are 20 per cent of income, X = 150, M = 100 + 0.2Y. Calculate equilibrium income, the budget deficit or surplus and the trade deficit or surplus.

19

Discuss some of the exchange rate arrangements that countries have entered into to bring about stability in their external accounts.