ECONOMICS TOPIC 10 LESSON 3

ECONOMICS TOPIC 10 LESSON 3

Exchange Rates and Trade

ESSENTIAL QUESTION

How might scarcity divide our world or bring it together?

Exchange Rates

The value of a nation’s currency in relation to a foreign currency is called the exchange rate. Understanding how exchange rates work enables you to convert prices in one currency to prices in another currency.

Converting Prices

A simple formula allows you to convert the price of an item from foreign currency to American dollars. Just divide the price by the value of the currency per one dollar according to the exchange rate.

Open Ended

Analyze Charts This chart shows exchange rates on a single day. If you had 100 euros, would it buy more Australian or U.S. dollars?

Appreciating Currency

An increase in the value of a currency is called appreciation. When a currency appreciates, it becomes “stronger.”

Depreciating Currency

A decrease in the value of a currency is called depreciation. You might also hear depreciation referred to as “weakening.” 

foreign exchange market

The foreign exchange market consists of about 2,000 banks and other financial institutions that facilitate the buying and selling of foreign currencies. These banks are located in various financial centers around the world, including such cities as New York, London, Paris, Singapore, and Tokyo.

Multiple Choice

Check Understanding What is a likely effect of a stronger dollar?

• American exports would be more expensive for international consumers.

• American exports would be less expensive for international consumers.

• Imported goods and services would be more expensive for American consumers.

• American goods and services would be more expensive for American consumers.

Fixed Exchange-Rate Systems

A system in which governments try to keep the values of their currencies constant against one another is called a fixed exchange-rate system.

The Bretton Woods Conference

In 1944, as World War II was drawing to a close, representatives from 44 countries met in Bretton Woods, New Hampshire. Their purpose was to make financial arrangements for the postwar world.

The Bretton Woods Conference

The Bretton Woods conference resulted in the creation of a fixed exchange-rate system for the United States and much of western Europe. Because the United States had the strongest economy and most stable currency, conference participants agreed to peg their currencies to the United States dollar.

Open Ended

Analyze Charts These countries have adopted the fixed-exchange rate system to ensure stability. Which country in the chart has had the same pegged currency rate the longest?

Flexible Exchange-Rate Systems

Under a flexible exchange-rate system, the exchange rate is determined by supply and demand rather than according to any preset range.

Flexible Exchange-Rate Systems

When the current flexible exchange-rate system was first adopted, some economists worried that changes in the exchange rate might interrupt the flow of world trade. In actual fact, trade has grown rapidly since the flexible exchange-rate system was adopted. 

The Euro

Although the flexible exchange-rate system works well, some countries whose economies are closely tied together want the advantages of fixed rates. One way to enjoy the advantages but avoid some of the difficulties of fixed exchange rates is to abolish individual currencies and establish a single currency.

The Euro

This is what 11 countries of the European Union did by adopting the euro. Use of this common currency requires countries to coordinate their economic policies, but it also simplifies trade. 

Multiple Choice

Identify Cause and Effect Why were some economists worried about the effects of a flexible exchange-rate system when it was first introduced?

• They expected that local banks were not equipped to deal with a flexible exchange rate.

• They expected countries to engage in more trade wars.

• They expected that changes in the exchange rate would interrupt trade.

• They expected traders to be confused.

Surpluses and Deficits

A nation that exports more goods and services than it imports has a positive trade balance, or a trade surplus. A nation that imports more goods and services than it exports has a negative trade balance, or a trade deficit.

Balance of Payments and Circular Flow Model

 Balance of payments is the value of all monetary transactions between all sectors of a country’s economy—households, firms, and government—and the rest of the world.

Multiple Choice

Identify Central Ideas What impact did the United States trade imbalance in the 1980s have on the cost of imported goods?

• International consumers had to pay more for American exports.

• American consumers had to pay more for American goods.

• American consumers had to pay less for imported goods.

• American consumers had to pay more for imported goods.

Causes of the Trade Deficit

The trade deficit started in the 1970's with the oil embargo and increased in the late 80's and 90's as the U.S. switched to a service economy. It continued to slide till 2017 when the Trump administration started applying Tarrifss to imported goods.

Effects of the Trade Deficit

Some economists worry that foreign financial investment might not always support the trade deficit. They worry that, with U.S. imports on the rise and American foreign debt growing, overseas investors might become reluctant to purchase American assets.

Can Balance of Trade Be Restored?

Only if law makers in Washington begin to apply more Tarriffs and look to increasing tech and heavy production jobs such as steel and communications equipment.

Multiple Choice

Make Generalizations What has been the trend of the United States balance of trade in recent decades?

• Trade deficits have been growing larger.

• Trade deficits have become increasingly smaller.

• Trade deficits have remained constant.

• The trade deficit has disappeared.

Open Ended

How might scarcity divide our world or bring it together?