Question

15. Suppose that ED 0.75 and e 0.5 for a given country: Are import demands elastic or inelastic in this case? Does the Marshall-Lerner condition hold? How do you know? Suppose that domestic price of this country's imports rise by 10% following a devaluation. What will happen to the quantity that it imports? Suppose that the foreign currency price of this country's exports falls by 10 percent following a devaluation. What will happen to the quantity of exports? a. b. c. d.

Answer 1

A).

Consider the given problem here the “import elasticity of demand” is “0.75” which is less than “1”, => as “exchange rate” increases by “1%” the import demand will decreases by less than “1%”, => the import demand is inelastic in nature.

B).

The “Marshall-Lerner” condition is given by, “ed + edf > 1”,=> 0.75+0.5=1.25 > 1”, => the “Marshall-Lerner” condition holds.

C).

Now, as the domestic price of this country’s imports rise by “10%” following a devaluation, => the import become expensive, => the import demand will decreases, => quantity of import will also decreases.

D).

Now, as the foreign currency price of this country’s export falls by “10%” following a devaluation, => the foreign people have to pay less compare to before, => they will purchase more of the goods, => quantity of export increases.