Answer to Question #251584 in Macroeconomics for Matt

Question

Explain, with the aid of a graph, what will happen to the rand/dollar exchange rate and the

equilibrium quantity of dollars if South African exports to the United States increase.

(Hint: In your answer, also comment on the effect on the current account of the balance of

payments as well as on the level of domestic prices.)

(Note: Four marks for the graph and six marks for the explanation.)

Answer 1

Solution:

If South African exports to the United States increase, the demand for domestic currency (South African rand) will increase.

The South African rand will appreciate against the USD. When South African exports are in high demand, the rand's value becomes stronger. Since producers will pay more for exports, this will increase demand for the South African rand. The demand for the South African rand will shift from D₁ to D₂ and increase the exchange rate from P₁ to P₂. Similarly, the quantity demanded for rand will increase from Q₁ to Q₂. The equilibrium price will shift from E₁ to E₂.

 

This is depicted by the below graph: