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Subject Solutions Code Description Price Delete

## Calculate the real bilateral exchange rate, Calculate the rate of change in the real bilateral exchange rates and Calculate the Real Effective Exchange rate (REER) for 2013.

#### Question Preview:

For question 8, what I need is: i) Calculate the real bilateral exchange rate (using the nominal exchange rate table from q.7, note the figures are from 2009, and 2013: not 2011 - there is a typo) ii) Calculate the rate of change in the real bilateral exchange rates iii) Calculate the Real Effective Exchange rate (REER) for 2013 Can you take another look, and advise if you are able to answer part i & ii?...

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#### Question Preview:

For question 8, what I need is: i) Calculate the real bilateral exchange rate (using the nominal exchange rate table from q.7, note the figures are from 2009, and 2013: not 2011 - there is a typo) ii) Calculate the rate of change in the real bilateral exchange rates iii) Calculate the Real Effective Exchange rate (REER) for 2013 Can you take another look, and advise if you are able to answer part i & ii?

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## Solution Preview

Ans: (a) Selling price of steel = \$ 600 per tonne

Price of coal = \$ 40 per tonne and price of iron ore = \$ 60 per tonne

Value add (VA) = Selling price - Costs of intermediate goods

For Effective Rate of Protection (ERP)

ERP = (VAt - VAf) / VAf = (VAt/ VAf) - 1

where:

ERP = Effective rate of protection

VAt = VA with tariff

VAf = VA with free trade

In this case,

Value add (VAf) = \$ 600 – (\$60 x 4 + \$40 x 6) = \$ 600 - \$480 = \$ 120

Value add (VAf) = \$ 120

Value added with tariff = VAt = [Selling price with tariff] - [Costs of intermediate goods with tariff]

With:

[Selling price with tariff]

= \$600 + (\$600 * 0.30)

= (\$600 + \$180)

= \$780

And:

[Costs of intermediate goods with tariff]

=[{ \$60 + (\$60 * 0.30)} x 4 + {\$40 + (\$40 *0.15)} x 6] = \$78 x 4 + \$46 x 6 = \$588

= \$312 + \$ 276

= \$588

So: VAt= \$780 - \$588 = \$192

Hence, ERP = (\$192/\$120) - 1

= 1.60 - 1

= 0.60

ERP   = 60%

b) Tariff on iron ore = 40% and coal is 10%

Costs of intermediate goods with tariff]

= [{\$60 + (\$60 * 0.40)} x 4 + {\$40 + (\$40 *0.10)} x 6] = \$84 x 4 + \$44 x 6

= \$336 + \$ 264

= \$600

So: VAt= \$780 - \$600= \$180

Hence, ERP = (\$180/\$120) - 1

= 1.50 - 1

= 0.50

ERP   = 50%

Thus, ERP will reduce if tariff is increased to 40% on iron ore and coal is reduced to 10%

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