Consider the foreign exchange market between the British pound (GBP) and the U.S
ID: 1225499 • Letter: C
Question
Consider the foreign exchange market between the British pound (GBP) and the U.S. dollar (USD), as shown in the graph below. The exchange rate, measured in U.S. dollars per British pound, is shown on the vertical axis while the quantity of pounds is shown on the horizontal axis.
a. In equilibrium, how many U.S. dollars can one pound be exchanged for?
_________ USD
b. If John, a British economist, wants to exchange 500 pounds into dollars at the current exchange rate, how many dollars will he receive?
__________ USD
c. In equilibrium, how many British pounds can one U.S. dollar be exchanged for?
_______ GBP
d. If Milton, an American economist, wants to exchange 600 U.S. dollars into pounds at the current exchange rate, how many pounds will he receive?
_______ GBP
e. Suppose the exchange rate changes so that 1 GBP = USD 1.55. Is John or Milton better off or worse off as a result of this change in the exchange rate?
-both john and milton will be better off
- john will be better off and milton will be worse off
- john will be worse off and milton will be better off
- both john and milton will be worse off
Foreign Exchange Market for GBP Exchange Rate 2.00 1.95 1.90 1.85 GBP a 1.80 1.75 CD 1.70 1.65 1.60 a 1.55 1.50 1.45 1.40 C 1.35 C 1.30 O 1.25 L 1.20 1.15 1.10 1.05 1.00 GBP 0 10 2030 40 50 60 70 80 90 100 Quantity (billions of GBP) resetExplanation / Answer
a. From the diagram, we see that the equilibrium exchange rate is $1.60 per pound.
b. Now if John wants to exchange 500 pounds into dollars then he will get (500 pound * $1.60/pound) = $800.
c. At equilibrium (1 / 1.60) pound / $ = 0.625 pound / $ is exchanged.
d. Now if Milton wants to exchange $600 in to pounds then he will get ($600 * 0.625pound/ $) = 375 pound.
e. If there is a change in exchange rate like that mentioned in question, the John will beworse off, because he will now get less amount of dollars by exchanging pounds. And Milton will better off because he will now get more pounds by exchanging lower amount of dollars.