Assignment 2

1. What is the theory of purchasing power parity? Does the theory successfully explain all long run exchange rate movements? What are some reasons that it might not always explain such movements?
2. In January 2007, before the financial crisis, the exchange rate was $1.30 per euro. In July 2008, during the financial crisis, the exchange rate was $1.58 per euro. Was this change in the dollar-euro exchange rate good news or bad news for U.S. firms exporting goods and services to Europe? Was it good news or bad news for European consumers buying goods and services imported from the U.S.? How about for U.S. consumers looking to buy goods and services made in Europe? Explain your answers.
3. You decide to work in Japan for the next 10 years, accumulate some savings, then move back to the United States and convert your savings from yen to dollars. At the time of your move, economists predict that consumers in the United States have reignited their love of Japanese products, especially hybrid cars, and expect that this strong preference for Japanese products will continue for the next decade. Should these predictions encourage or discourage you to work and save in Japan? Why? Should you reconsider your move now, and/or reconsider it in the future?