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Economic Relationship: The U.S Dollar

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While nations of the world had previously tied their currencies to the gold standard, that practice abandoned in favor of linking currencies directly through floating exchange rates. Due to the dominance of the United States in economic and financial matters, the US dollar became the "reserve currency" of the world. Other countries tied their exchange rates to the dollar.
1. What responsibilities did that impose on the US? What were the risks to other nations?
2. Explain the relationship between the inflation rates in two countries and their exchange rates.

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1. Responsibilities on the US
Due to linking of other currencies with the US dollar, it imposes responsibility on the US that Federal Reserve monetary policy is made with the consideration of the global economy rather than the US only. It is because the Federal Reserve monetary policy has a significant influence on the foreign exchange value of the dollar. It is also the responsibility of the US to maintain fixed exchange rates, so that the growth of the other economies could be protected (Ravenhill, 2011). At the same time, it is also a major responsibility of the US for having the dollar as the dominant currency in the market to support the global financial markets by issuing the government debts to foreign countries continuously by honoring the interest payments over the existing ...

Solution Summary

This response explains the responsibilities that are imposed on the US due to the US dollar becoming the "reserve currency" of the world. Also, the relationship between the inflation rates in two countries and their exchange rates is discussed.

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Economics in American Firms: Multiple Regression Analysis

In recent years, many American firms have intensified their efforts to market their products in the Pacific Rim. A consortium of U.S. firms that produce raw materials used in Singapore is interested in predicting the level of exports from the U.S. to Singapore, as well as understanding the relationship between U.S. exports to Singapore and certain variables affecting the economy of that country. The consortium hired an economist to perform an analysis.

The economist obtained monthly data on five economic variables for the period January 2006 to July 2011 (a total of 67 months) from the Monetary Authority of Singapore. These variables are as follows:

- Exports: U.S. exports to Singapore in billions of Singapore dollars
- M1: Money supply figures in billions of Singapore dollars
- Lend: Minimum Singapore bank lending rate in percentage
- Price: Index of local prices where the base year is 2006
- Exchange: Exchange rate of Singapore dollars per U.S. dollar

Part I.
The economist performed a multiple regression analysis with Exports as the dependent variable and the four economic variables M1, Lend, Price, and Exchange as the independent variables. Part of his regression results are shown below:

Regression I
R Square 0.825
Observations 67

Coefficients Standard Error Lower 95% Upper 95%
Intercept -4.015 2.766 -9.544 1.514
M1 0.368 0.064 0.240 0.496
Lend 0.005 0.049 -0.093 0.103
Price 0.037 0.009 0.019 0.055
Exchange 0.268 1.175 -2.035 2.571

(a) (3 points) Which variable(s) among the four do you think is (are) an important explanatory variable(s) for Exports? Explain your answer.

(b) (3 points) The economist next computed the sample correlation between Price and Lend, which turns out to be 0.845. What problems, if any, can you identify in Regression I based on this information? How would you modify the model to avoid these problems?

Part II.
The economist tried two other regression runs with Exports as the dependent variable. In one model, he used three independent variables: M1, Price, and Exchange. In the other model, he used only two independent variables: M1 and Price. Part of his regression results are shown below:

Regression II

R Square 0.823
Observations 67

Exchange 0.242 1.135 -1.983 2.467

Regression III

R Square 0.821
Observations 67

Price 0.037 0.004 0.029 0.045

(c) (4 points) In your opinion, which of the three regression models (I, II, III) is the best overall?
Support your answer with any statistical reasoning that you feel is appropriate.

(d) (4 points) What is your estimate of U.S. exports to Singapore in billions of Singapore dollars (using your best model) if M1=102.5, Lend=5.4, Price=126.9, and Exchange=1.26?

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