1.     Consider the following two country-two goods world, with a single input, labor:

Daily production per worker

Commodity                       Riceland                             Tealand

a)    Does either country have absolute and/or comparative advantage in any product?

Provide support for your answer by computing the opportunity costs for both products in bothcountries.

b)  Following your answer to part a, is there any advantage in trading here? Atwhat "prices"(rice perunit of tea, or tea per unit of rice) will such trade occur?  In other words, what is the maximum amount of tearelative to riceat which trade will occur?What is the minimumamount? 

c)    Suppose the cost of labor to produce daily output of each good in each country is TT40 in Tealand, and RR1600 in Riceland(forexample, with TT40 you could produce either 2 tons of rice or 6 tons of tea in Tealand). Further, let the exchange rate be TT1=RR50; what is the priceofthe goods in each country in TT (convert pricesto TT)? 

d)    What will the exchange rate have to be to discourage Riceland imports of Tealand goods?Similarly, what will the exchange rate have to be to discourage Tealand imports of Riceland goods? 

2.     Consider a country like South Korea,oneof the world's largest producers ofsemi-conductors andalso a big producer ofcomputers, tablets and smartphones.  Inorderto protect this important semi-conductorindustry, the South Korean government imposesa tariffon semi- conductor imports into South Korea. Discuss the impactof this tariff especially onthe effective protection oftablets, smartphonesand computers. 

3.     You are considering exchanging Swiss Francs (SF)forJapanese Yen (Y). At the bank, youseethe following rates posted. (Please note thatfor fullcredit, youmust show the steps to the correctanswer clearly and cleanly, not just the final answer.)

SF/$ = 0.9154                                                  Y/$= 100.26

a.    What is the Y/SF exchange rate?

b.    What is the SF/Y exchange rate?

c.     If the SF appreciatedby10% what would then new rate be?

d.    If the Yen depreciated by 25% relative to the original exchange rate, what would the new rate be?

4.     Consider a small country,Neverland trading withtherest of the worldin perfect capital markets.

a.      Suppose Neverlandhas a floating exchangerate.  Your CEO,Capt.Hookneeds your help-pleasediscusswhat is the impact of eachof thefollowing events ontheexchange rate fortheNeverland

Doubloons(ND). (All you haveto do is evaluatewhat happens to the currency andwhy).

i.    The governorof the Central Bank of Neverland, Ms. Tinker Bell raisesdomestic interest

rates, while world interest rates remainconstant.ii.    Ms. Tinker Bell also announced today that Neverland's economy was the fastest growing economy (GDP growth) in the world, stemming from a large current account surplus. 

iii.    YourCEO,Capt. Hook strongly believes that in the long run,the ND will depreciate if Ms.Tinker Bell maintainsthis higher interest ratefora very long time. Do you agree? 

b.     Suppose Neverland had afixed exchange rate, and iscommitted tokeeping it fixedthrough open market operations(i.e. the central bank buying andselling currency tokeep it fixed.)i.    IfMs. Tinker Bell raised domestic interest rates now,whatwill happen to theexchange rate?

What shouldyour CEO, Capt.Hookexpect Ms. Tinker Bell todo?Will it impact yourcompany's operations inNeverland? 

5.      In recent months, several emerging markets such asIndia, Indonesia, Brazil andto a lesser extent Brazil haveseen a sharp depreciation of their currencies against theUS dollar, as well asan increasein volatility of their markets. Inorder to address this issue, suppose a country like Indonesia were tomorrow to announce the following new policies bythe central bank:Fixed exchange rate oftheIndonesian rupiah against thedollarthrough open market operations

• Free flow of capital in and out of Indonesia

• Continuous adjustment of monetary policy by the central bank

Is this a good strategy? What are the likely outcomesof such a strategy? (Thisis a thinking question! Hint: suppose there isa large downward pressure onthe rupiah and the bank needstoconduct open market operations to keep it fixed. What will happen tothe other two aspects ofthe bank's strategy?)

6.     Is the UStrade deficitalways a bad thing?  Many current US politicians advocateforcingChina to strengthen its Yuan in orderto help reduce the UStrade deficit. Is this agood strategy? Would it work?  Why orwhy not?

7.    Suppose that in 2000, a Britishpound sold for 175 yen. If PPP heldsince 2000, what shouldthe PPP exchange ratehavebeen in 2010 if Japanese inflationover that time period was0% andBritish inflation was 20%? Is that an appreciationor depreciation of the yen? Please showyour calculationsandreasoning clearly.8.     Suppose thata decade ago, the Japanese yenstood at 120 Yen/$; Today, 10 years later, the Japanese yenis trading at 100 Yen/$. Considerthe case ofthe heavy earth-moving equipment industry, consisting of essentially two major players globally, US-basedCaterpillar and Japan-basedKomatsu.

a.    What has happened to the Japanese Yen and howdoes it affectthe relative competitive positions of Caterpillar andKomatsu?  Explain youranswer clearly.

b.    How should this affectthestrategic behavior ofthe two firms?  You may wish to answer this questionfirst from the short-term perspective, and then fromthe long-term perspective.