Question 5 (Total 16 marks) The difficulties of international trade can be seen when potential suppliers are not located in Australia. Comparisons are more difficult because the evaluation process is complicated. To make such comparisons, the Australian buyer can check the appropriate exchange rate quotation in the foreign exchange market. One of the roles of a country's central bank is to influence the value of its currency relative to other currencies. The equilibrium exchange rate of a given currency is determined by the supply of and demand for the currency. Table 5.0 shows an initial equilibrium exchange rate of 0.60's for dollars that are being exchanged for British pounds in foreign exchange markets. Suppose Australian government decides this equilibrium exchange rate is contributing to a deficit in Australian current account with England. Table 5.0: The supply of and demand for the currency S Market S Market $/$ S, /$ S2 0.60 0.60/$ 0.50/$ D D Quantity of $ Quantity of $ A B Imagine a firm that invests millions of dollars in a foreign currency in order to gain access to a market of rich natural resources. Unfortunately, the firm must manage the exchange rate risk that results from changes in the value of the foreign currency relative to the Australian dollar as well as political risks, environmental concerns, and cultural differences. The establishment of an international presence has proven the desire of Australian government to develop a strong, competitive and efficient financial system and a strong economy. It is generally accepted that foreign banks play an important role in creating this environment. The financial crisis in 2007-09 also highlighted the importance of international banking and the impact it can have on the global economy. (a) Discuss how the RBA can intervene in the foreign exchange markets by affecting the supply of or demand for its currency from A to B. (8 marks)