22 Exchange rates and the balance of payments

Chapter Twenty Two Exchange rates and the balance of payments

Self-assessment Questions

22.1 No. Depreciation of the Hong Kong dollar against the Australian dollar is the same thing as an
appreciation of the latter against the former.

22.2 The $10 million dividend income will be recorded on the credit side of the external factor
income flow in the current account.

The expenditure on the Indian porcelain will be recorded on the debit side of the visible trade
account in the current account.

22.3 If there is a surplus in other components of the current account, such as the invisible trade
account and the account showing external factor income flow, and if the surplus in these
components more than offset the deficit in the balance of trade, the current account will be in
surplus.

22.4(a) This transaction will be recorded as an import of non-produced, non-financial assets, and
will be put on the debit side of the capital account.

22.4(b) This is a domestic transaction and it will not be recorded on the balance of payments.

22.5 True. If a country runs into a balance of payments surplus, its official reserve will increase.

Multiple Choice Questions

1 B 2 B 3 D 4 D 5 C
6 A 7 C

2 The question means that the Hong Kong dollar will depreciate. Depreciation of the Hong Kong
dollar will lower the prices of export, leading to an expansion in export trade.

4 In economics, a balance of trade deficit does not imply a balance of payments deficit, neither
does the latter imply the former.

6 Retained imports = total imports – re-exports

= ($3,500 – $2,000) billion
= $1,500 billion

Short Questions

8(a) Appreciation is the increase in the exchange value of a currency in terms of another currency.

The Hong Kong dollar appreciates against the Australian dollar if HK$1 can be exchanged for
more Australian dollars.

8(b) Depreciation is the decrease in the exchange value of a currency in terms of another currency.

New Introductory Economics 3rd Edition 49 © Pearson Education Asia Limited 2003
Suggested Solutions (2004 reprint with minor amendments)
 22 Exchange rates and the balance of payments

The Hong Kong dollar depreciates against the Australian dollar if HK$1 can be exchanged for
less Australian dollars.

9(a) The import of TV sets is put on the debit side of the visible trade account.

9(b) The purchase of a house in Australia is entered in the financial account as domestic investment
abroad. It is put on the debit side.

9(c) Japanese tourists flying on the Cathay Pacific Airways will be treated as Hong Kong’s export
of services. It is put on the credit side of the invisible trade account.

9(d) Setting up a regional headquarter involves an inflow of investment from the USA to Hong
Kong. It is put on the credit side of the financial account.

(Yet, if the US firm needs to use the services of estate agents in finding an office, this part of
the expenditure will be recorded on the credit side of the invisible trade account).

9(e) There will be an investment flow abroad, and this is put on the debit side of Hong Kong’s
financial account.

10(a) The value of visible trade balance

= $(130.9 + 1,429.6 – 1,619.4) billion
= -$58.9 billion

10(b) No. The balance of visible trade is just part of the current account. We have to consider
invisible trade, external factor income flows and current transfers as well in order to work out
the balance of current account.

New Introductory Economics 3rd Edition 50 © Pearson Education Asia Limited 2003
Suggested Solutions (2004 reprint with minor amendments)