5 Changes in the foreignexchange market The following questi

5. Changes in the foreign-exchange market The following questions focus on the exchange rate between the Malaysian ringgit and the Mexican peso. Assume the exchange rate is flexible. The exchange rate is defined as the number of ringgit you must pay for one peso. Suppose strong economic growth in Malaysia causes Malaysian incomes to increase, while incomes in Mexico remain the same. Shift the appropriate curve or curves on the following graph to illustrate how this affects the market for Mexican pesos if all other things remain equal. Supply of Demand for Pesas Supply af Pesos bi QUANTITY OF PESOS The increase in Malaysian incomes causes the Mexican peso to Malaysian ringgit to relative to the Malaysian ringgit and causes the relative to the Mexican peso.

Solution

ANS:

1. when the malaysian income rises their demand for import rises , thus, for paying for their imports they will be needing pesos and hence the demand curve for pesos will shift to the right .

2. mexican peso will thus appreciate relative to malaysian ringgit and malaysian ringgit will depreciate relative to mexican peso .

3. if the inflation rises in mexico , this will imply that goods are cheaper in malaysia, so imports will decrease and hence the demand for pesos will shift to left .

4. if real interest rate falls in malaysia , this will cause huge capital outflow from malaysia as investing in mexico is now more attractive . this will cause supply of pesos to fall and demand for pesos to rise which causes the malaysian ringgit to depreciate relative to mexican peso .