Answer to Question #255322 in Microeconomics for Zama

Question

Explain, with the aid of a graph, what will happen to the exchange rate between the rand and the dollar if more South African residents purchase shares in American companies. Also comment on the impact on the equilibrium quantity of dollars.

Answer 1

Solution:

If more South Africans invest in American companies, the exchange rate will fall due to a significant net outflow of funds. This is because more rands will be sold in order to buy dollar shares in American corporations. The rand's value will fall as a result of increased supply on foreign exchange markets.

 

This is depicted in the graph below:

 

 

 

The rand's exchange rate equilibrium price will fall from P1 to P2 as the equilibrium quantity rises from Q1 to Q2. The equilibrium position will shift from E1 to E2.