IB Economics SL 3.5 Demand management - monetary policy Question Bank

Study the extract below and answer the questions that follow.
Boom or bust

(1) The freely floating Australian dollar has been appreciating, creating winners and losers. Australian tourists overseas are getting bargain hotel rooms while some local exporters are suffering huge falls in demand. The appreciation of the Australian dollar gives a good reason to foreign students not to study in Australia. But as the Australian dollar continues to gain strength it seems that the economy is coping with the appreciating currency better than many economists expected.

(2) Australia's exports are dominated by minerals, energy and agricultural products, and all are enjoying record prices. Continued strong demand means that the exporters of these products have not needed to look for other markets. For example, coal and iron ore prices have more than doubled in the last two years, these commodity prices rising even more quickly than the appreciating currency.

(3) The Australian dollar is only one factor affecting exporters, and at the moment the strong economic growth of the Asian economies is adding to the increasing demand for Australian commodities.

(4) However, not everyone in Australia is happy. Service industries have not enjoyed an increase in the price of their output, nor have they enjoyed booming foreign demand. The problems with the appreciating Australian dollar are most evident in the fact that fewer students and tourists are coming to Australia. Manufacturers have a similar problem and are suffering from the results of the rising Australian dollar and increased domestic interest rates.
5 The higher Australian dollar has provided many indirect benefits. By making imported resources cheaper, it has reduced the inflationary pressures which were caused by the economic boom that gave consumers greater spending power. As a result, it allowed the Australian government to slow down the interest rate increases which it was imposing in order to tackle inflation.

Study the extract below and answer the questions that follow.
Japan in first trade gap since 1963

(1) Japan's current account surplus fell 85.5 % in November 2011 from a year earlier to 138.5 billion Japanese yen (Japan's currency) ( $ 1.80 billion), the Ministry of Finance said. In 2011, Japan recorded its first deficit in its balance of trade in goods since 1963.

(2) The appreciation of the Japanese yen against the dollar has reduced Japan's current account surplus. The Japanese yen gained 8.5 % against the dollar in the 12 months since January 2011. The currency has acquired a new and unusual status as a safe haven, reinforced by the eurozone debt crisis since international investors are concerned about the single European currency.

(3) It is estimated that a 1 % gain in the Japanese yen could reduce the export volumes by 0.34 %, slowing down growth for a country that has relied on overseas demand to maintain its recovery from March 2011's earthquake. To stop the trade in goods deficit from getting worse, the world economy would have to grow by 4 % and the value of the Japanese yen would have to fall by 5 %. It is unlikely that this will happen.

(4) With their rapidly aging and decreasing population, Japanese firms face severe challenges and have little choice but to look abroad for growth. The Japanese yen's appreciation to record highs against the euro and relative strength against the US dollar has led to a boom in outward foreign direct investment (FDI). Exporters are transferring their operations from Japan to other economies, where parts and labour costs are lower.

(5) Japan's current account surplus could move into a deficit sooner than 2015 if more companies shift production abroad to combat losses from a strong Japanese yen. In 2011 Japanese firms purchased a record number of firms across the rest of Asia. Worldwide the number of Japanese purchases reached 455, only just short of its record of 463 in 1990.

(6) Japanese firms are also acquiring shares in natural resource companies. Mitsubishi spent more than $ 5 billion buying a quarter of mining giant Anglo-American's Chilean copper unit, and trading group Itochu bought a $ 1 billion stake in a US oil and gas firm.

(7) The Japanese Prime Minister has encouraged the trend. "We will take advantage of the appreciating Japanese yen to support Japanese companies in purchasing foreign companies and acquiring resource interests," he said.

(8) However, Japanese authorities have signalled there are concerns about a further appreciation of the Japanese yen. The central bank said last month that it plans to increase the funds available for currency intervention.

Study the extract below and answer the questions that follow.
New Zealand dollar overvalued

(1) The New Zealand finance minister said the exchange rate of the New Zealand dollar (NZD), is "unsustainably high; it is somewhere between 10 % to 15 % overvalued".

(2) The NZD had been near its record high against the US dollar before weakening last week on slower inflation figures and a fall in dairy prices. The NZD has gained about 6 % so far this year.

(3) However, the finance minister said that New Zealand exporters had developed strength because of the high currency. "New Zealand is actually in reasonably good shape," he said. "We have had an export sector operating with a strong exchange rate now for five or six years and that has had an impact on efficiency."

(4) An economist said recently that the central bank might consider intervening in the currency market to achieve a depreciation in the value of the NZD.
5 The Reserve Bank (central bank) governor raised the official interest rate for the fourth time this year to 3.5 % at a time when other major economies have their rates at record low levels.

(6) He said that, "Encouragingly, the economy appears to be adjusting to the monetary policy tightening that has taken place since the start of the year. It is important that inflation expectations remain contained. This interest rate increase will help keep future average inflation near the 2 % target and ensure that the economic expansion can be sustained".

(7) New Zealand's economy is expected to grow at an annual pace of 3.7 % over 2014. New Zealand government figures showed a monthly trade (in goods) surplus of $ 247 million in June 2014 compared to $ 371 million in June 2013. The annual trade (in goods) balance turned to a surplus of $ 1.2 billion from a deficit of $ 819 million a year earlier.

(8) Global demand for New Zealand dairy products has been a key support for the country's exports over the past 18 months, though prices have dropped this year with increased supply.
> "Dollar dives after reserve bank lifts rate to 3.5 pc", The New Zealand Herald, 24 July 2014; and "NZ dollar slides to six-week low after rate hike", The New Zealand Herald, 24 July 2014]