Homework #2 Chapter 1, Chapter 2, Chapter 3

Chapter 1 Question 7 1. Merits of NAFTA Decreased tariffs GDP of Mexico increased from 2.2% to 29.8% Zero import quotas

Demerits of NAFTA Took 15 years to eliminate tariffs Mexicos exports grew and imports declined in a way affecting the US

Chapter 2 Questions 1-5 1. Greshams Law- refers to the phenomenon that bad (abundant) money drives good (scarce) money out of circulation. Bimetallic standard- exchange ratio between two metals became fixed; only the abundant metal was used as money. This drove the more scarce metal out of circulation. 2. The mechanism is referred to as the price-specie-flow mechanism. If the gold standard is used as the method of payment between two countries, and there is disequilibrium between the inflows and outflows of those countries (one country imports more and exports less than the other country) then the prices for the country that imports more will fall because there is more abundance of goods and less gold for payments, whereas the country that exports more will have prices rise because there are limited goods and more gold. Also, the country that exported less initially will see an increase in demand of its products whereas the country that exported more will see a decrease in demand.

3. In this situation it would be advantageous to purchase francs with pounds on the foreign exchange market since you could get 2.2 francs per pound (or at the price of gold you could get 13.2 francs for 6 pounds thus leaving a positive of 1.2 francs if you then purchased gold). If you wanted to convert your francs to pounds, it would cost 13.2 francs for 6 pounds, so instead of doing that trade on the foreign exchange market it would be better to buy gold for 12 francs, ship it to England and sell it for 6 pounds, thus saving you 1.2 francs. However, if the cost of shipping the gold is more than 1.2 francs per ounce, then this would not be cost effective. 4. The advantages of the gold standard Since the supply of gold is restricted, countries cannot have high inflation Any BOP disequilibrium can be corrected automatically through crossborder flows of gold

Disadvantages of the gold standard are The world economy can be subject to deflationary pressure due to restricted supply of gold The gold standard itself has no mechanism to enforce the rules of the game, and, as a result, countries may pursue economic policies that are incompatible with the gold standard. 5. Bretton Woods system1. promote international trade 2. exchange rate stability Chapter 3 Questions 1-3 1. The balance of payments is the statistical record of a countrys international transactions over a certain period of time presented in the form of a double-entry bookkeeping.

2. The balance of payments data signals a countrys potential as a business partner for the rest of the world. If a country is running a deficit this may well mean that the countrys ease as far as trade restrictions are concerned. 3. The reason behind the US continuous balance of payments deficit point at the ability of the countrys citizens to live beyond their means. This translates to more imports than exports. Other reasons for this may be outsourcing of different industries and jobs to other countries which produce commodities to export to the US. A continuous balance of payments deficit will increase US debt and eventually lead to a loss of trust in the Dollar causing depreciation of the Dollar against other economies crises.