Question

suppose the u.s. price level rises 25 percent at a time when japan experiences stable prices. as a result, the u.s. demand for japanese goods will ______, and the japanese demand for u.s. goods will ______; in turn, this will increase the demand for japanese yen and decrease the supply of japanese yen; in turn, the dollar will depreciate and the yen will appreciate.

rise; rise, too
rise; fall
fall; rise
fall; fall, too

Explanation:

Analyze relative price changes

Using the Exchange Rate Effects knowledge point
When the U.S. price level rises by 25% while Japan experiences stable prices, U.S. goods become relatively more expensive than Japanese goods. Consequently, Japanese goods become relatively cheaper for consumers in both countries.

Determine demand for Japanese goods

Using the Foreign Exchange Market and Currency Demand and Supply knowledge points
Because Japanese goods are now relatively cheaper, U.S. consumers will increase their purchases of Japanese imports. Therefore, the U.S. demand for Japanese goods will rise.

Determine demand for U.S. goods

Using the Foreign Exchange Market and Currency Demand and Supply knowledge points
Because U.S. goods are now relatively more expensive, Japanese consumers will decrease their purchases of U.S. exports. Therefore, the Japanese demand for U.S. goods will fall.

Connect to currency market effects

Using the Income Effects on Exchange Rates knowledge point
The increased U.S. demand for Japanese goods increases the demand for Japanese yen. The decreased Japanese demand for U.S. goods decreases the supply of Japanese yen in the foreign exchange market. This shifts the yen demand curve right and the yen supply curve left, causing the U.S. dollar to depreciate and the Japanese yen to appreciate.

Match the correct option

The blanks in the prompt are: "As a result, the U.S. demand for Japanese goods will [rise]; and the Japanese demand for U.S. goods will [fall]...". This corresponds to the option "rise; fall".

Answer:

• (A) rise; rise, too
• (B) rise; fall (Correct answer)
• (C) fall; rise
• (D) fall; fall, too