CHAPTER 1

Introduction
EASY
1.1

Historically, the primary motive for U.S. multinationals to produce abroad has been to
b.
respond more quickly to the marketplace

1.2

The primary objective of the multinational corporation is to

a.
maximize shareholder wealth
3
a

____________ is defined as the purchase of assets or commodities on one market for

immediate resale on another in order to profit form a price discrepancy.
arbitrage

4The value of good financial management is ___________ in the global markets because of
the much greater probability of market imperfections and multiple tax rates.
a enhanced
5

When a firm operates globally it offers advantages such as

a
greater negotiating power with labor unions

The prime transmitter of global competitive forces is the

a
the multinational corporation
1.7

___________ were the earliest multinationals.

a.
raw-material seekers

1.8

The ___________ are the archetype of the modern multinational firm that goes overseas
to produce and sell in foreign markets.
a
market seekers

1.9

___________ are a recent category of multinationals that seek out and invest in lower
cost production sites overseas.
a.
Cost minimizers

10

Which one of the following is a consequence of increased global competition?

a
increased anxiety among workers in the old industrial countries

11

The defenders of multinationals believe that __________ are the appropriate reward for
efficiently providing the global economy with products and services.
a
profits
International ________ can reduce the volatility of an investment portfolio because
national financial markets tend to move independently of each other.

12

diversification

MODERATE
1.13

Into which category of multinational is IBM most likely to fall?

b.
market seeker

Which one of the following did NOT accelerate the growth of the global economy in the past
decade?
a
The Southeast Asia Currency Crisis
1.15

The multinational financial system enables companies to

a.
avoid currency controls
b.
reduce taxes
c.
access lower cost financing sources
d.
all of the above

16

An alternative to the set up of an production facility overseas is to license a local firm to

manufacture the companys products. One disadvantage of this method is
a
the establishment of a competitor with loss of future revenues to the licensing
firm

1.17

Which of the following is an example of reverse foreign investment for the U.S.?
a.
Honda builds a factory in Ohio

1.18

Which of the following is NOT a failing of the theory of comparative advantage?

a.
it ignores the role of uncertainty and economies of scale
b.
it assumes that factors of production are relatively immobile
c.
it assumes that there are no differentiated products
d.
it deals with trade only differentiate rather than undifferentiated products
ANSWER:
d: rise of the multinational
DIFFICULT
1.19

Which of the following theories identifies specialization as the main reason for
international business activity?
c.

1.20

doctrine of comparative advantage

Critics of the multinational corporation would NOT fault its tendency to

d.
engage in environmental protection measures

1.21

Multinational firms would most likely be

c.

less risky than domestic firms if the added risks of operating overseas are more
than offset by the ability to operate in nations whose economic cycles are not
perfectly in phase

1.22

According to the capital asset pricing model

a.
only the systematic component of risk affects the required return

1.23

The internationalization process most likely tends to

d.
begin by exporting

1.24

According to the efficient market hypothesis, which one of the following is NOT
correct?
a.
markets place a premium on the future

1.25

Which one of the following provides strong evidence that internationalization continues
to grow in the world economy?
a
the growing volume of foreign direct investment by U.S. as well as other
multinational companies

1.26

For the multinational corporation, which one of the following complements to the
integration of world wide operations is MOST critical?
a
speed

1.27

According to Shapiro, if you were the CEO of a multinational corporation, which of the
following would be MOST important to you in hiring a manager? One that
a
Makes decisions that anticipates problems and provides solutions that enhances
the firms prospects for growth
CHAPTER 2
THE DETERMINATION OF EXCHANGE RATES

EASY
2.1

The explanation for the rise of the U.S. dollar during the early 1980s is that
c.
the U.S. budget deficit raised U.S. interest rates

2.2

The U.S. dollar weakened during the 1970s because

d.
U.S. inflation accelerated

2.3

Exchange rates depend on

a.
relative inflation rates
b.
relative interest rates
c.
relative trade deficits
d.
a and b
ANSWER:
d:
2.4

Beginning in 1997, the ruble came under attack by speculators and resulted in
accelerating
b.
capital flight

2.5

During the second half of 1997, currencies and stock market prices plunged in value
across Southeast Asia, beginning in
a
Thailand

2.6

The asset market view of exchange rate determination says that the spot rate
a.
should follow a random walk
b.
is affected primarily by a nation's long-run economic prospects
c.
both a and b
ANSWER:
c: Expectations and the Asset Market Model of Exchange Rates
2.7

When monetary authorities have not insulated their domestic money supplies from the
foreign exchange transactions, it is known as ________ intervention.
a.
unsterilized

When the U.S. Federal Reserve sells or purchases Treasury securities in order to sterilize
the impact of their foreign exchange market interventions, it is referred to as a(n)
________ operation.
a
open market

Under which one of the following systems is there no central bank?

a
Currency board

MODERATE
2.10

On Friday, September 13, 1992, the lira was worth DM 0.0013. Over the weekend the
lira devalued against the DM to DM 0.0012. By how much had the lira devalued against
the DM?
a
7.69%
b
8.33%
c
5.21%
d
9.27%
ANSWER:
a: Setting the Equilibrium Spot Exchange Rate

2.11

Suppose that the Brazilian real devalues by 40% against the U.S. dollar. By how much
will the dollar appreciate against the real?
a.
67%
b
40%
c.
32%
d.
28%
ANSWER:
a: Setting the Equilibrium Spot Exchange Rate
2.12

If the French euro devalued by 17% against the U.S. dollar, this is equivalent to a
revaluation of the dollar against the euro by
a
17%
b
16.31%
c
20.48%
d
17.54%
ANSWER:
c: Setting the Equilibrium Spot Exchange Rate
2.13

If the Australian dollar devalues against the Japanese yen by 10%, the yen will
appreciate by
a.
33.32%
b.
25.55%
c.
10.11%
d.
11.11%
ANSWER:
d: Setting the Equilibrium Spot Exchange Rate
2.14

If the euro depreciates against the U.S. dollar by 50%, the dollar appreciates against the
euro by
a
55%
b
100%
c
200%
d
1,000%
ANSWER:
b: Setting the Equilibrium Spot Exchange Rate

2.15

If the U.S. dollar appreciates against the Nigerian naira by 150%, the naira depreciates
against the dollar by
a
60%
b
75%
c
125%

d
ANSWER:

300%
a: Setting the Equilibrium Spot Exchange Rate

2.16

If the dinar devalues against the U.S. dollar by 45%, the U.S. dollar will appreciate
against the dinar by
a
45%
b
82%
c
55%
d
32%
ANSWER:
b: Setting the Equilibrium Spot Exchange Rate

2.17

If the peso depreciates against the U.S dollar by 80%, the US dollar will appreciate
against the peso by
a
300%
b
200%
c
250%
d
400%
ANSWER:
d: Setting the Equilibrium Spot Exchange Rate
2.18

If the U.S. dollar appreciates against the euro by 25%, the euro will depreciate against
the U.S. dollar
a
25%
b
20%
c
30%
d
10%
ANSWER:
b: Setting the Equilibrium Spot Exchange Rate
2.19

If a foreigner purchases a U.S. government security

c.
the demand for dollars rises

2.20

The price of foreign goods in terms of domestic goods is called

a.
the real exchange rate

2.21

An increase in the real exchange rate will

c.

make a country less competitive in international trade

2.22

A slowdown in U.S. economic growth will

c.
lower the value of the dollar because the U.S. will be a less attractive place to
invest in

2.23

The willingness of people to hold money

a.
b.
c.
d.
ANSWER:

increases with the interest rate

rises with price stability
rises with national income
b and c only
d: The Fundamentals of Central Bank Intervention

2.24

Sound economic policies will

a.
raise the value of a nation's currency by boosting the economy

2.25

Large government budget deficits will

e.
historical experience shows no correlation between government budget deficits
and the value of the nation's currency

DIFFICULT
2.26

Which type of money is MOST likely to see its value fluctuate in the foreign exchange
market?
a.
fiat money

2.27

An increase in the supply of U.S. dollars by the Federal Reserve will

c.
reduce the value of the dollar because of inflation fears in the United States

28

Which one of the following is probably the best advice for governments when it comes
to exchange rate arrangements?
c.
There is no substitute for good macroeconomic policy.

2.29

Which of the following is an example of foreign exchange market intervention?

d.
the Japanese central bank sells yen in the foreign exchange market to prop up the
value of the yen

2.30During 1995, the yen went from $0.0125 to $0.0095238. By how much did the
appreciate against the yen?
a
23.81%
b
31.25%
c
15.67%
d
40.78%
ANSWER:
b: Setting the Equilibrium Spot Exchange Rate
31

dollar

Which one of the following effects would MOST likely be caused by a government
artificially holding its currency value down?
a
a massive rise in foreign exchange reserves.

CHAPTER 3
The International Monetary System
EASY

3.1

The ________ is an exchange rate system that is relatively free from central bank and
other government interventions.
b.
clean float

3.2

When government intervention attempts to reduce for exporters and importers the
uncertainty caused by disruptive exchange rate changes for the short and medium term,
it is referred to as _________.
b.
leaning against the wind

3.3

Under a _________, countries adjust their national economic policies to maintain their
exchange rates within a specific margin around agreed-upon, fixed central exchange
rates.
d.
target-zone agreement

3.4

________ is nonconvertible paper money backed only by faith that the monetary
authorities will not issue more money.
b.
Fiat money

3.5

Under the classic gold standard, if prices began rising in the U.S.
d.
gold would flow out of the U.S. and the U.S. money supply would drop

3.6

The Bretton Woods system

a.
ended in 1971

3.7

The current exchange rate system can best be characterized as a

e.
hybrid system
3.8

Managed floats would NOT fall into which of the following categories of central bank intervention?

d.

target-zone arrangements

3.9

The European Monetary System is best described as a

b.
target-zone arrangement

3.9

A weak peso is most likely to cause

b.
less unemployment but more inflation in Mexico

3.10

The Bretton Woods system fell apart because

b.
U.S. monetary policy was too expansionary

3.11

The gold standard was dissolved in 1973 because

a.
the U.S. printed too many dollars to maintain gold at $35/oz

b.
c.
d.
ANSWER:

some countries preferred to hold gold instead of dollars

high interest rates raised the cost of holding gold
a and b only
d: the post-Bretton Woods System

3.12

The rising dollar in the early 1980s can be attributed to

a.
high real interest rates in the United States
b.
improved investment prospects in the United States
c.
the growing U.S. budget deficit
d.
a and b only
ANSWER:
d: the rising dollar: 1980-1985
3.13

The fall of the dollar beginning in 1985 can be attributed to

d.
the slowdown in U.S. economic growth relative to growth overseas

MODERATE
3.14 The characteristic of gold that is most important to the success of a gold standard is that it is

d.

expensive to produce

3.15

A gold standard ensures a long-run tendency toward price stability because

c.
the cost of producing an ounce of gold stays relatively constant overtime

3.16

Calls for a new gold standard reflect

a.
fundamental distrust of government's willingness to maintain the integrity of fiat
money

3.17

Under the gold standard

c.
the long-run stability of the price level includes alternating periods of inflation
and deflation

3.18 Under a fixed-rate system, a country that followed policies that would lead to a higher rate of inflation
than that experienced by its trading partners would

a.

experience a balance-of-payments deficit as its goods became more expensive

3.19 Under a fixed-rate system, a country that followed policies leading to a lower inflation rate than that
experienced by its trading partners would

a.

come under pressure to expand its money supply

3.20Underlying the emerging markets currency crises is a fundamental conflict among policy objectives that
the target nations have failed to resolve. Which one of the following is NOT?
a
IMF bailouts
DIFFICULT

3.21

In a fixed-rate system, central banks maintain currency values by

d.
buying undervalued currencies in the foreign exchange market

3.22 Governments intervene in the foreign exchange markets for all of the following except to

a.

earn foreign exchange

3.23 Under a fixed-rate system, which of the following four alternatives to devaluation is MOST likely to
succeed?

b.
3.24

austerity

In order to boost the value of the euro relative to the dollar

a.
the Fed should sell dollars for euros and the European central bank should buy
DM with dollars
CHAPTER 4
Parity Conditions in International Finance and Currency Forecasting

EASY

4.1

A currency is said to be at a forward _________ if the forward rate is below the spot rate.
a.
discount

The theory of relative purchasing power parity states that, between two nations, the

exchange rate difference reflects the inflation rate difference

4.3

The Fisher effect states that the _________ rate is made up of a real required rate of
return and an inflation premium.
b
nominal interest rate

4.4

A rise in the inflation rate in one nation relative to others will be associated with a fall in
the first nations exchange rate and with a rise of its interest rate relative to foreign
interest rates. The two conditions combined result in the _________ Effect.
b
International Fisher

The purchase of currency on one market for immediate resale in another market
in order to profit from the rate discrepancy is known as _________.
a.
arbitrage

In its absolute version, _______ states that price levels should be equal world-wide
when expressed in a common currency.
b.
purchasing power parity

When there is a relative shortage of capital and high political risk in most developing
countries, it is likely to drive real interest rates in these countries to
a.
decline below real interest rates in developed countries
b.
exceed nominal interest rates in developed countries
c.
exceed rate interest rates in developed countries

d.

parity conditions in all developing countries

MODERATE
4.8

Suppose annual inflation rates in the U.S. and Mexico are expected to be 6% and 80%,
respectively, over the next several years. If the current spot rate for the Mexican peso is
$.005, then the best estimate of the peso's spot value in 3 years is
a.
$.00276
b.
$.01190
c.
$.00321
d.
$.00102
ANSWER:
d: purchasing power parity
4.9

If the expected inflation rate is 5% and the real required return is 6%, then the Fisher
effect says that the nominal interest rate should be
a.
1%
b.
11.3%
c.
11%
d.
6%
ANSWER: b: The Fisher Effect

4.10

The inflation rates in the U.S. and France are expected to be 4% per annum and 7% per
annum, respectively. If the current spot rate is $.1050, then the expected spot rate in
three years is
a.
$.1150
b.
$.1112
c.
$.0964
d.
$.0992
ANSWER: c: purchasing power parity

4.11

If inflation in the U.S. is projected at 5% annually for the next 5 years and at 12%
annually in Italy for the same time period, and the lira/$ spot rate is currently at L2400 =
$1, then the PPP estimate of the spot rate five years from now is
a.
1738
b.
3314
c.
2560
d.
2250
ANSWER: b: purchasing power parity

4.12

If expected inflation is 20% and the real required return is 10%, then the Fisher effect
says that the nominal interest rate should be exactly
a.
30%
b.
32%
c.
22%
d.
12%
ANSWER: b: The Fisher effect

4.13

Annual inflation rates in the U.S. and Greece are expected to be 3% and 8%,
respectively. If the current spot rate for the drachma is $.007, then the expected spot rate
in three years is
a.
$.00607
b.
$.00823
c.
$.00751
d.
$.00694
ANSWER:
a: purchasing power parity
4.14

If a country's freely floating currency is undervalued in terms of purchasing power

parity, its capital account is likely to be
a.
in deficit or tending toward a deficit
b.
in surplus or tending toward a surplus
c Subsidized by the International Monetary Fund
d.
a candidate for loans from the World Bank
ANSWER:
a: purchasing power parity
4.15

If the average rate of inflation in the world rises from 5% to 7%, this will tend to make
forward exchange rates move toward
a.
smaller premiums or larger discounts in relation to the dollar
b.
larger premiums or smaller discounts in relation to the dollar
c.
no change on average
d.
can't tell what will happen
ANSWER:
c: purchasing power parity
4.16

A 150% real return in Brazil is higher than a 15% dollar return in the U.S.
a.
because arbitrage opportunities exist
b.
when the inflation controls are suspended in Brazil
c.
it depends on whether these are nominal or real returns
d.
regardless of nominal or real returns
ANSWER:
c: purchasing power parity
4.17

Annual inflation rates in the U.S. and Italy are expected to be 4% and 7%, respectively.
If the current spot rate is $1 = L2,000, then the expected spot rate for the lira in three
years is
a.
$.0004591
b.
$.0011590
c.
$.0009892
d.
$.0005471
ANSWER:
a: purchasing power parity
4.18

Annual inflation rates in the U.S. and France are expected to be 4% and 6%,
respectively. If the current spot rate is $.1250/FF, then the expected spot rate in two
years is

a.
b.
c.
d.
ANSWER:

$.1299
$.1150
$.1203
$.1335
c: purchasing power parity

4.19

Suppose five-year deposit rates on Eurodollars and Euromarks are 12% and 8%,
respectively. If the current spot rate for the mark is $0.50, then the spot rate for the mark
five years from now implied by these interest rates is
a.
.5997
b.
.4169
c.
.5185
d.
.4821
ANSWER:
a: the international Fisher effect
4.20

The direct spot quote for the Canadian dollar is $.76 and the 180-day forward rate is
$.74. The difference between the two rates is likely to mean that
c.
prices in Canada are expected to rise more rapidly than in the U.S.

4.21

The spot rate on the Dutch guilder is $0.39 and the 180-day forward rate is $0.40. The
difference between the spot and forward rates means that
a.
interest rates are higher in the U.S. than in the Netherlands

4.22

Suppose the price indexes in Mexico and the U.S., which both began the year at 100, are
at 160 and 103, respectively, by the end of the year. If the exchange rate began the year
at Mex$4.5 = $1 and ended the year at Mex$5.9 = $1, then the change in the real value
of the peso (a "-" indicates a real devaluation) during the year is
a.
0%
b.
-5.0%
c.
18.5%
d.
-8.2%
ANSWER:
c: purchasing power parity
4.29

The spot rate on the euro is $1.40 and the 180-day forward rate is $1.50. The difference
between the two rates means
a.
interest rates are higher in the U.S. than in the European Union

DIFFICULT
4.34

Suppose the pound devalues from $1.25 at the start of the year to $1.00 at the end of the
year. Inflation during the year is 15% in England and 5% in the U.S. What is the real
devaluation (-) or real revaluation (+) of the pound during the year?
a.
- 12.38%
b.
- 20.71%
c.
+ 2.39%
d.
+ 1.46%
ANSWER: a: purchasing power parity

4.35

Suppose the price indexes in Spain and the U.S., which both began the year at 100, are
at 117 and 105, respectively, by the end of the year. If the beginning and ending
exchange rates, respectively, for the peseta are $.1320 and $.1125, then the change in the
real value of the peseta (a "-" indicates a real devaluation) during the year is
a.
0%
b.
-5.0%
c.
2.4%
d.
-8.2%
ANSWER: b: purchasing power parity

4.36

Suppose the Swiss franc revalues from $0.40 at the beginning of the year to $0.44 at the
end of the year. U.S. inflation is 5% and Swiss inflation is 3% during the year. What is
the real devaluation (-) or real revaluation (+) of the Swiss franc during the year?
a.
+ 7.9%
b.
- 5.3%
c.
+ 8.1%
d.
- 1.6%
ANSWER:
a: purchasing power parity
4.37

Suppose the value of the Polish zloty moves from Z 1000 = $1 at the start of the year to
Z 1,800 at the end of the year. At the same time, the Polish price level changes from an
index of 100 on January 1 to 134 on December 31. U.S. inflation during the year was
4.5%. If the one-year interest rate on the zloty is 44%, what was the real dollar cost of
borrowing the zloty during the year?
a.
17.53%
b.
27.81%
c.
-23.44%
d.
-8.76%
ANSWER:
c: purchasing power parity

4.38

Suppose inflation rates in the U.S. and France are expected to be 4% and 9%,
respectively, next year and 6% and 7%, respectively, in the following year. If the current
spot rate is $.1050, then the expected spot value of the franc in two years is
a.
$.1111
b.
$.1024
c.
$.0992
d.
$.1074
ANSWER:
c: purchasing power parity
4.39

Suppose the Deutsche mark revalues from $.30 at the beginning of the year to $.33 at the
end of the year. Inflation during the year is 5% in the U.S. and 3% in Germany. What is
the real devaluation (-) or real revaluation (+) of the Deutsche mark during the year?
a.
+ 7.9%
b.
- 5.3%
c.
+ 8.1%
d.
- 1.6%
ANSWER: a: purchasing power parity

4.40

If the U.S. trade balance with Japan is expected to go from a deficit this year to a surplus
next year, the forward rate on yen would
d.
could be either above or below the spot rate

4.41

The following exchange and interest rate quotations were recently observed:
Eurocurrency rates

Exchange rate per $

90-days (% annum)
(Discretely-compounded)

90-day
forward

Spot

DM

DM

DM

Bid:

15 5/8

7 7/8

12 1/4

1.881

.4961

1.801

.4937

Ask:

16

8 1/4

13

1.843

.4902

1.773

.4889

An arbitrage profit can be obtained by

a.
borrowing pounds and lending dollars