Describe the chain of events leading to exchange rate determination for the following cases:
(a) An increase in U.S. money supply
(d) Increase in growth rate of U.S. money supply
(c) Increase in world relative demand for U.S products
(d) Increase in relative U.S. output supply
Chain of events leading to exchange rate determination:
= × (Pus/PE)
Increase in U.S. money supply: Pus rises in proportion to the money supply; q remains the same. All dollar prices will rise (including dollar price of euro).
Increase in growth rate of U.S. money supply: Inflation rate, dollar interest rate, Pus, E, rises in proportion to Pus.
Increase in world relative demand for U.S. products: E falls, and q does as well.
Increase in relative U.S. output supply: Dollar depreciates, lowers relative price of
U.S. output, rise in q, effect on E is not clear since q and Pus work in opposite directions.
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