Suppose a basket of goods costs 400 in the United States and 200 in Britain. If the exchange rate is 1/pound, what will happen in the foreign exchange market, according to the purchasing power parity theory?
a. The market will go further out of equilibrium because of increased activity.
b. An increase in demand for pounds will lead to an increase in the price of pounds.
c. An increase in demand for dollars will lead to an increase in the price of dollars.
d. An increase in demand for dollars will lead to a decrease in the price of dollars.
e. An increase in demand for pounds will lead to a decrease in the price of pounds.
QUESTION 2If the minimum efficient scale in toaster production is 500,000 units per year, the average cost of producing 300,000 toasters is greater than the average cost of producing 500,000.
a. True
b. False
QUESTION 3Suppose a basket of goods that costs 400 in the United States costs only 200 in Britain and the current exchange rate is 1/pound. According to the purchasing power parity theory, the equilibrium exchange rate should be higher than 1/pound. Why?
a. The basket could be purchased in Britain for 200 and sold in the United States for 400, and the 400 could be used to purchase 400 for a 200 profit.
b. The basket could be purchased in Britain for 200 and sold in the United States for 200, and the 200 could be used to buy 200, for a 500 profit.
c. The basket could be purchased in the United States for 400 and sold in Britain for 400, and the 400 could be used to buy 1,400, for a 1,000 profit.
d. The basket could be purchased in the United States for 200 and sold in Britain for 400, and the 400 could be used to buy 800, for a 400 profit.
e. The basket could be purchased in the United States for 200 and sold in Britain for 400, and the 400 could be used to buy 900, for a 500 profit.
QUESTION 4If the minimum efficient scale in the production of aluminum exceeds the quantity of aluminum any individual siding producer buys, siding producers should integrate backward into aluminum production.
a. True
b. False
QUESTION 5If the same basket of goods costs 400 in the United States and 200 pounds in Britain, then according to the purchasing power parity theory,
a. goods and services must cost half as much in Britain as in the U.S.
b. the exchange rate should approach 2/pound
c. the exchange rate should approach 0.50/pound
d. goods and services must cost twice as much in Britain as in the U.S.
e. we cannot say anything about prices in the two countries unless we know the exchange rate
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