Question

1. For each of the following: draw a supply/demand graph for the currency market in question. Label axes, the supply and demand curves, and equilibrium exchange rate. Then show and explain with words what will happen to the market after the shock described. Include the effect on the foreign exchange rate. Explain.
   1. the market for Mexican Pesos - investors speculate that the Peso will soon appreciate
   2. the market for British pounds - Brexit scares investors, so investors leave the UK
   3. the market for Korean won - Americans buy many more Korean cars

Answer 1

a. If investors speculate that the Peso will soon appreciate, then the demand for Mexican Peso will increase and this will shift the demand curve for Pesos rightwards in the foreign exchange market. This leads to appreciation of Pesos in the foreign exchange market.

b. If the investors leave the UK, then the supply of British pounds will increase and this will shift the supply curve of Pesos rightwards to S'S' where it can be seen that the exchange rate or value of Pound in terms of the foreign currency has depreciated.

c. As Americans buy more Korean cars the demand for won will increase because of payment of imports to be made in won by America.Thus, demand curve will shift rightwards which will lead to appreciation of currency.