   Chapter 21.3, Problem 3ST

Chapter
Section
Textbook Problem

In each of the following cases, identify whether the U.S. dollar is overvalued or undervalued: a. The fixed exchange rate is \$2 = £1, and the equilibrium exchange rate is \$3 = £1. b. The fixed exchange rate is \$1.25 = €1, and the equilibrium exchange rate is \$1.10 = €1. c. The fixed exchange rate is \$1 = 10 pesos, and the equilibrium exchange rate is \$1 = 14 pesos.

To determine

Check whether Country U’s dollar is overvalued or undervalued.

Explanation

Option (a):

The equilibrium exchange rate is 3 dollars that is equal to 1 pound, and the fixed exchange rate is 2 dollars that is equal to 1 pound. This means that the value of dollar increased. Therefore, fewer dollars are needed for exchanging one pound. Thus, the dollar is overvalued.

Option (b):

The equilibrium exchange rate is 1.10 dollar that is equal to 1 Euro, and the fixed exchange rate is 1.25 dollar that is equal to 1 Euro...

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