Chapter 7

Question 1

Economic union

Answer 1

It involves the free flow of products and factors of production among member countries and the adoption of a common external trade policy, but it also
requires a common currency

Question 2

Trade diversion

Answer 2

It occurs when lower-cost external suppliers are replaced by higher-cost suppliers within the free trade area

Question 3

Trade creation

Answer 3

It occurs when high-cost domestic producers are replaced by low-cost producers within the free trade area.

Question 4

Impediments to economic integration

Answer 4

While a nation as a whole may benefit form a
regional free trade agreement, certain groups will lose

Question 5

Functions of the Foreign Exchange Market

Answer 5

Currency conversion, Insuring Against Foreign exchange risk

Question 6

Exchange rate

Answer 6

This is the rate at which one currency is converted into another.

Question 7

Purchasing Power Parity

Answer 7

In efficient markets, exchange rates should adjust so that a “basket of goods” costs the same in different countries

Question 8

Three forms of Currency Convertibility

Answer 8

• Freely convertible.
• Externally convertible.
• Nonconvertible.

Question 9

Inflation

Answer 9

It happens when the money supply increases faster than output increases

Question 10

Currency speculation

Answer 10

Typically involves the short-term movement of funds from one currency to another in the hopes of profiting from shifts in exchange rates.