These are original Marlbridge practice questions, not past exam questions. All questions use two fictional countries: Valdoria, whose currency is the valda (VD), and Ostria, whose currency is the ostro (OS). All prices, quantities and exchange rates are fictional. The rubrics are a suggested Marlbridge rubric to help you check your work; they are not an official scoring guideline. Assumptions: exchange rates are flexible; quantities of currency are in millions per month; round exchange rates to 4 decimal places and percentages to 2 decimal places.
Question 1 (multiple choice · foundation)
Which of the following transactions creates a demand for valdas in the foreign exchange market?
- (A) A Valdorian family pays for a holiday in Ostria.
- (B) An Ostrian pension fund buys shares in a Valdorian company.
- (C) A Valdorian importer pays for Ostrian machine parts.
- (D) A Valdorian student pays tuition fees to an Ostrian university.
Answer and explanation
Answer: (B). The Ostrian fund must pay for the Valdorian shares in valdas, so it offers ostros to buy valdas. Demand for a currency comes from demand for the country’s goods, services and financial assets.
- (A) The family needs ostros for the holiday, so it supplies valdas.
- (C) The importer pays in ostros, so it supplies valdas to buy ostros.
- (D) The tuition is paid in ostros, so the student supplies valdas. It is a payment for a foreign service.
Question 2 (multiple choice · core)
In the flexible market for valdas, the exchange rate is currently above its equilibrium level. Which statement is correct?
- (A) There is a shortage of valdas, so the valda appreciates.
- (B) There is a surplus of valdas, so the valda depreciates until quantity demanded equals quantity supplied.
- (C) There is a surplus of valdas, so the valda appreciates.
- (D) The quantity of valdas demanded is greater than the quantity supplied, so the ostro depreciates.
Answer and explanation
Answer: (B). Above equilibrium the valda is overpriced. Quantity supplied is greater than quantity demanded, so there is a surplus. Sellers accept fewer ostros per valda and the rate falls to equilibrium.
- (A) A shortage happens below equilibrium, not above it.
- (C) Gets the surplus right but the direction wrong. A surplus pushes the price of the currency down.
- (D) Describes a shortage of valdas, which happens below equilibrium.
Question 3 (multiple choice · core)
Which of the following best explains why the demand curve for valdas slopes downward?
- (A) When the valda is worth fewer ostros, Valdorian goods and assets cost less in ostros, so foreigners buy more of them and need more valdas.
- (B) When the valda is worth fewer ostros, Valdorians buy more Ostrian goods, so they demand more valdas.
- (C) A fall in the exchange rate shifts the demand curve for valdas to the right.
- (D) When the valda is worth more ostros, Valdorian goods become cheaper for Ostrians.
Answer and explanation
Answer: (A). A lower exchange rate makes a fixed valda price cheaper in ostros, so the quantity of Valdorian goods and assets bought by foreigners rises, and so does the quantity of valdas demanded.
- (B) Reverses the effect on imports. A cheaper valda makes Ostrian goods dearer for Valdorians, and buying imports supplies valdas, not demands them.
- (C) A change in the currency’s own price is a movement along the curve, not a shift.
- (D) A dearer valda makes Valdorian goods more expensive for Ostrians.
Question 4 (multiple choice · core)
In the market for valdas, quantity demanded is Qd = 300 − 80e and quantity supplied is Qs = 60 + 40e, where e is the exchange rate in ostros per valda and quantities are in millions of valdas. What are the equilibrium exchange rate and quantity?
- (A) OS 2.0 per valda and 140 million valdas
- (B) OS 3.0 per valda and 60 million valdas
- (C) OS 0.5 per valda and 140 million valdas
- (D) OS 2.0 per valda and 280 million valdas
Answer and explanation
Answer: (A). Set Qd = Qs: 300 − 80e = 60 + 40e, so 240 = 120e and e = 2.0. Then Qd = 300 − 160 = 140 and Qs = 60 + 80 = 140.
- (B) Ignores the 40e in supply: 300 − 80e = 60 gives e = 3.0, and Qd there is 60. Supply at that rate would be 180, so this is not an equilibrium.
- (C) Gives the reciprocal, 1 ÷ 2.0 = 0.5, which is the price of an ostro in valdas, not the price of a valda in ostros.
- (D) 280 is the value of the trades in ostros (140 × 2.0), not the quantity of valdas.
Question 5 (calculation · core)
The table shows the monthly market for valdas.
| Exchange rate (OS per VD) | Quantity of valdas demanded (millions) | Quantity of valdas supplied (millions) |
|---|---|---|
| 0.8 | 95 | 35 |
| 1.0 | 85 | 55 |
| 1.2 | 75 | 75 |
| 1.4 | 65 | 95 |
| 1.6 | 55 | 115 |
(a) State the equilibrium exchange rate and quantity. (b) At OS 1.6 per valda, calculate the surplus or shortage and state which way the valda’s value will move. (c) At OS 1.0 per valda, calculate the surplus or shortage and state which way the valda’s value will move. (d) At equilibrium, how many ostros change hands each month, and what is one ostro worth in valdas?
Worked solution
(a) OS 1.2 per valda; 75 million valdas a month.
(b) Quantity supplied 115 − quantity demanded 55 = a surplus of 60 million valdas. The valda depreciates toward OS 1.2.
(c) Quantity demanded 85 − quantity supplied 55 = a shortage of 30 million valdas. The valda appreciates toward OS 1.2.
(d) 75 million × 1.2 = OS 90 million. One ostro is worth 1 ÷ 1.2 = VD 0.8333.
Suggested mark points (4): 1 for the equilibrium; 1 for the surplus of 60 with depreciation; 1 for the shortage of 30 with appreciation; 1 for both values in (d). In (b) and (c) the direction must match the surplus or shortage to earn the point.
Question 6 (constructed response · core)
Valdoria has a flexible exchange rate. The market for valdas is in equilibrium at exchange rate e₁ and quantity Q₁.
(a) Draw a correctly labelled graph of the foreign exchange market for valdas. Show the equilibrium exchange rate e₁ and quantity Q₁. (b) On your graph, show an exchange rate e₂ that is below e₁. Label the quantities demanded and supplied at e₂, and identify the resulting surplus or shortage. (c) Explain how the market moves from e₂ back to e₁. (d) Using an Ostrian product as an example, explain why the supply curve of valdas slopes upward.
Worked solution and suggested Marlbridge rubric
(a) Vertical axis: “Exchange rate (OS per VD)” or “Price of the valda in ostros”. Horizontal axis: “Quantity of valdas”. A downward-sloping D for valdas and an upward-sloping S of valdas cross at e₁ and Q₁.
(b) At e₂ below e₁, mark the quantity supplied (Qs, on the supply curve, to the left of Q₁) and the quantity demanded (Qd, on the demand curve, to the right of Q₁). The horizontal gap Qd − Qs is a shortage of valdas.
(c) With a shortage, buyers of valdas compete for the limited quantity and offer more ostros per valda. The exchange rate rises: the valda appreciates. As it rises, quantity demanded falls and quantity supplied rises along the curves until they are equal at e₁. Neither curve shifts.
(d) Take an Ostrian laptop with a fixed ostro price. When the valda appreciates, each valda buys more ostros, so the laptop costs fewer valdas. Valdorians buy more Ostrian laptops (and other imports and assets), and to pay for them they offer more valdas in exchange for ostros. A higher exchange rate therefore means a larger quantity of valdas supplied.
| Point | What earns it |
|---|---|
| 1 | Correctly labelled axes for the market for valdas (price of VD in OS; quantity of VD) |
| 1 | Downward D and upward S with e₁ and Q₁ shown at the intersection |
| 1 | e₂ below e₁ with a shortage correctly shown as Qd greater than Qs |
| 1 | Explains that the shortage bids the rate up (valda appreciates) to e₁ |
| 1 | Explains the upward slope through cheaper imports in valdas, leading to more valdas supplied |
An axis labelled only “Price” or “Exchange rate” without saying which currency is priced in which does not earn the first point. Any Ostrian good, service or asset is acceptable in (d).
Question 7 (constructed response · stretch)
The market for valdas is in equilibrium at OS 2.5 per valda, with 120 million valdas traded each month.
(a) A Valdorian importer buys Ostrian fabric. Explain what she does in the market for valdas and what she does in the market for ostros. (b) Calculate the equilibrium exchange rate in the market for ostros, in valdas per ostro, and the quantity of ostros traded each month. (c) The valda later falls to OS 2.0 per valda. Calculate the percentage change in the value of the valda (in ostros) and in the value of the ostro (in valdas). (d) Suppose instead that the exchange rate in the market for valdas were held above OS 2.5. Explain what this would mean in the market for ostros.
Worked solution and suggested Marlbridge rubric
(a) She must pay in ostros. She supplies valdas in the market for valdas and, in the same trade, demands ostros in the market for ostros.
(b) Valdas per ostro = 1 ÷ 2.5 = VD 0.40 per ostro. The 120 million valdas supplied buy 120 × 2.5 = OS 300 million each month.
(c) Valda: (2.0 − 2.5) ÷ 2.5 × 100 = −20% (a 20% depreciation). Ostro: it rises from 1 ÷ 2.5 = VD 0.40 to 1 ÷ 2.0 = VD 0.50, so (0.50 − 0.40) ÷ 0.40 × 100 = +25% (a 25% appreciation).
(d) If the valda is held above equilibrium, there is a surplus of valdas. The same trades seen from the other side mean the ostro is held below its equilibrium price (fewer than VD 0.40 per ostro), so there is a shortage of ostros: more ostros are wanted by people offering valdas than are offered by people wanting valdas.
| Point | What earns it |
|---|---|
| 1 | Supplies valdas and demands ostros, with the reason (she pays in ostros) |
| 1 | VD 0.40 per ostro and OS 300 million |
| 1 | −20% for the valda and +25% for the ostro, each from its own starting value |
| 1 | Links a surplus of valdas to a shortage of ostros at a below-equilibrium price of the ostro |
In (c), stating “20% both ways” earns no credit. Accept an answer to (d) drawn as a correctly labelled graph of the market for ostros.
How did you do?
- Q1 or Q7(a) wrong: re-read “Who demands valdas?” and “Who supplies valdas?” in the study guide.
- Q2, Q5 or Q6(b)–(c) wrong: revisit “Equilibrium, surplus and shortage” and Worked example 1.
- Q3 or Q6(d) wrong: revisit Worked example 2 on why the curves slope as they do.
- Q4 wrong: solve Qd = Qs carefully and check which currency each number is in.
- Q7(b)–(d) wrong: re-read “Two markets, one set of trades”.
Then tick off the topic checklist.