1. Exchange Rates NPR Segment on Argentina Venezuela and Zimbabwe
IB Economics
Section 3.2

2. current exchange rates
Appreciation of the dollar –an increase in the value of the dollar relative to the currency of another nation (STRONG)
dollar buys more foreign stuff.
Depreciation of the dollar – a decrease in the value of the dollar relative to another currency (WEAK DOLLAR)
Dollar buys a smaller amount of foreign currency and thus foreign goods.

3. Floating Exchange Rates
Market Exchange Rates determined by Supply and Demand
Brief History:
Items requiring foreign exchange:
Services
Tourism
Business trips
Currency speculators
Set-up a manufacturing company

4. An Overview
Suppose:
Canadian Dollars
Mexican Pesos
IF Mexican importers demand Canadian goods they must pay for the goods in Canadian dollars, therefore, an increase in demand for Canadian dollars.
Peso
Price of C$
D2 for C$ D1
Q of C$

5. Downward sloping Demand
The lower the price of the C$ the more will be demanded
The cheaper the C$ is to Mexican traders the cheaper are Canadian goods, services and assets. Therefore the demand curve for the dollar will slope downward.
Canadian Dollar Exchange Rate
Peso Price of C$
D by Mexico
Q of C$

6. Upward Sloping Supply
Supply of C$ into foreign exchange markets comes from Canadians wishing to buy Mexican goods, services and assets
The higher the C$/peso exchange rate the more pesos will be bought and the more dollars will be supplied.
This is because the price of Mexican goods, services and assets are cheaper in Canadian dollars the higher is the price of the C$.
Exchange Rate for Canadian $
Peso
Price
of C$
S by Canada
Q of C$

7. Equilibrium Exchange Rates
A= Equilibrium exchange rate,
DC$ = S C$
If exchange rate is below equilibrium, at C$1 =90 pesos than D>S, shown as B-C.
Dealers wanting to earn commission by exchanging money will have to raise the offer price for the C$ to encourage greater supply and reduce the excess demand. This would continue until equilibrium was reached.
In practice the process is very rapid, they adjust to small gaps in rates minute by minute.
Exchange Rate for Canadian $
Peso
Price
of C$
S of C$ by Canada A
100 B C 90 80
D of C$
by Mexico
Q of C$

8. Floating Exchange Rates
Suppose there is an increase in demand for British goods. This means that foreigners need pounds and the need for pounds drives up the exchange rate.
The reverse is true as well.
Exchange rates for British Sterling (Pounds)

9. Currency Terms . .
Appreciate = A rise in the exchange rate is called appreciation.
Depreciation = A fall in the exchange rate is called depreciation.
S1 of C$
A fall in demand of C$ is shown
As a shift in the demand curve
From D1 to D2. An increase in
Supply is shown as a movement
From S1 to S2.
In both cases the exchange rate
Of the C$ will fall, or depreciate
(Conversely, the peso has
Appreciated).
Peso price
Of C$ A
S2 of C$ B
D1 of C$ C
D2 of C$
Quantity of C$

10. Fixed Exchange Rates
Suppose there is an increase in demand for British Sterling= D1 to D2, thus increasing exchange rate.
British authorities will then tap into their currency reserves and sell more sterling, thus increasing supply from S1 to S2, and maintaining fixed exchange rate.

11. Determinants of Foreign Exchange Rates
Taste and Preferences
Increase taste for German cars = increase demand for Euro, therefore euro appreciates
Relative Interest Rates
Canada offers high interest rates = increased demand for C$ therefore C$ appreciates
Income, real Income
If GDP increases then increased M, increase supply of their currency, therefore their currency depreciates
Prices levels, relative Price Levels
If a country has high inflation, consumers in that country will increase M because M is relatively cheaper, increase supply currency to buy M- currency depreciates
Speculation –
If speculators think the currency will do well then buy low and sell high. If speculators think $ is overvalued and is due for a fall, people holding $ will rush to sell and the supply of $ will increase - $ depreciates

12. China as a currency manipulator
The Onion on Value of the Dollar

13. Now it is time to practice . . .