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Flexible prices and a flexible exchange rate

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Suppose you live in a small open economy with flexible prices and a flexible exchange rate.

a. Suppose that the world interest rate rises. What is the effect of this change on the exchange rate and investment?

b. The citizens of your country like to travel abroad. Would the change in world interest rates affect their cost of spending abroad?

c. Suppose that the introduction of more cash machines (in domestic) reduces demand for money (in domestic). Explain how this affects the trade balance, the real exchange rate, and the nominal exchange rate?

d. A friend tells you that travelling in Singapore is much more expensive now than it used to be. He says "5 years ago, one US dollar bought 1 Singapore dollar, but now one US dollar buys only 0.98 Singapore dollars." Is this friend right or wrong? Assume that total inflation over this period was 1% in Singapore and 6% in the US.

Reference no: EM132476192

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