Effects of movements in the exchange rate

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*this focuses on the effects of currency depreciation*

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9 Terms

1
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Do we want a high or low exchange rate?

Neither is better for the economy as there are both positives and negatives depending on your role in the economy (importer, exporter, consumer, producer)

2
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Who domestically gains from a currency depreciation (exporters or importers)?

Australian exporters will gain a competitive advantage as the price of Australia’s g/s in foreign currency will fall

Causing demand for Australian exports to increase and the volume and qty to increase

3
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Who domestically gains from a currency depreciation (producers or consumers)?

Domestic producers who compete with imports are more competitive because import prices have increased making foreign g/s more expensive.

Meaning more domestic g/s are bought increasing net trade and Australia’s real GDP

4
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How does a depreciation affect the economy?

It will have an expansionary affect on the level of economic activity - boosting production, income and employment.

5
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How does depreciation affect inflation levels?

Will increase inflation because import prices will increase and will feed into the consumer price index, resulting in an increase in cost inflation.

Demand inflation will also rise since depreciation will increase income and spending in the domestic economy increasing aggregate demand

6
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What will happen to trade balance from a depreciation?

A depreciation will increase the volume and not change the price of exports but it will also decrease the volume of imports and it will increase the price of imports, causing the value to increase or decrease depending on the elasticity for demand of imports.

7
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What will happen to imports from a depreciation?

In the short run because a large proportion of Australia’s imports are relatively price inelastic a depreciation will increase the value of imports and decrease trade balance.

It will take a while for the quantities to adjust it will form the J curve effect.

8
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What is the J curve effect?

The J refers to the shape of the trade balance after a depreciation. It will initially fall due to higher import values and eventually rise as the volume effects will dominate and the trade balance increases

9
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How does a depreciation affect domestic businesses that sell imported goods?

They will be disadvantaged because they will see a decline in sales. Many business rely on imported g/s as inputs for their business and a depreciation will increase their cost of production.