Category: Essential Economics for Business: Ch 13

In March 2007, the pound reached a record high against the dollar. This made it an excellent time for UK tourists to visit the USA with prices appearing relatively low thanks to the exchange rate. These exchange rate values also affected the balance of payments of both the USA and the UK and the article below looks at the economic impact of the high exchange rate against the dollar.

Why everything’s almost free in America (and why it won’t last) Guardian


1. Explain the principal reasons for the change that has taken place in the exchange rate in recent years.
2. “On a PPP basis, a pound should buy $1.60”. Explain what is meant by this statement.
3. “My bet is that within a year the rate will be closer to $1.60 than $2. Maybe a lot closer.” Assess the impact of this possible outcome on economic growth and inflation in the UK.
4. Examine the likely impact of the high exchange rate on the balance of payments situation of (a) the USA and (b) the UK.

It was over 25 years ago that £1 was worth more than $2 on the foreign exchange markets, but that important psychological barrier was broken again this month as the value of sterling crept above $2 on foreign exchange markets. The continuing weakness of the dollar is making life difficult for UK exporters and also for firms in the Eurozone as the weakness in the dollar also affects the Euro and other major currencies.

Pound reaches 26-year dollar high BBC News Online (18/4/07)
UK pound goes through $2 barrier BBC News Online (17/4/07)
Yen hits record low against euro BBC News Online (16/4/07)
Pound hits 25-year dollar high Guardian (18/4/07)
British pound breaks through $2 International Herald Tribune (17/4/07)


1. Explain the impact of the weak value of the dollar on international markets on the price of UK imports and exports.
2. Assess the likely impact of the high value of sterling on the major UK economic targets.
3. Assess policies that the government could use to try to reduce the value of sterling against the dollar if they chose to.

Since the 1970s and 1980s we have moved away from an active exchange rate policy as part of an overall demand management strategy. Indeed, by the mid 2000s, even the role of fiscal policy in demand management had diminished. The article below looks at these changes and considers whether this new approach to demand management is proving effective.

It’s a fashionable club but can the MPC keep us out of the rough? Guardian (11/2/07)


1. Explain how the approach to management of the economy has changed over the last three decades.
2. Assess the problems that might arise from trying to manage the economy using just one policy instrument (i.e. interest rates)..
3. Explain what is meant by an exchange rate policy. Discuss whether the reintroduction of an exchange rate policy would help with the management of the economy.