ECS3703
ASSIGNMENT 02
SECOND SEMESTER
DUE YEAR 2025
, ECS3703 ASSIGNMENT 02 SECOND SEMESTER DUE YEAR 2025
Question 1 [15 Marks]
Assuming that South Africa trades with China, use a fully labelled diagram
to explain what would happen to China’s foreign exchange market if the
Chinese government decides to increase the tariffs imposed on South African
exports to China.
Diagram
Price of Rand (CNY/ZAR)
SZAR
Tariff reduces imports
⇒ Demand for ZAR falls
E0
P0
P1
E1
D0
D1 Quantity of Rand (ZAR)
Q1 Q0
Explanation and Discussion
1. Market Context
The diagram represents the Chinese foreign exchange (FX) market for the South
African rand (ZAR). Two fundamental forces drive this market:
• The demand for rand (D) arises from Chinese importers who require rand to
purchase South African goods and services.
• The supply of rand (S) originates from South Africans converting rand into
yuan to buy Chinese goods or invest in China.
1
, 2. Tariff-Induced Shock
When China raises tariffs on South African exports:
• South African goods become more expensive in China.
• Chinese importers reduce their purchases of South African goods.
• Consequently, the demand for rand decreases, shifting the demand curve leftward
from D0 to D1 .
3. Market Adjustment and New Equilibrium
The reduction in demand for rand produces a new market equilibrium:
• The equilibrium moves from E0 to E1 , reducing the exchange rate from P0 to P1 .
This signifies a depreciation of the rand and a corresponding appreciation
of the yuan.
• The traded volume of rand falls from Q0 to Q1 , reflecting weaker trade flows
between China and South Africa.
4. Broader Implications and Academic Insight
The FX market adjustment extends beyond the immediate shift in exchange rates:
• Short run: South Africa suffers reduced export revenues, while China strengthens
its currency position against the rand. Trade volumes contract as imports decline.
• Medium run: South Africa may diversify its export destinations. A weaker rand
could stimulate exports globally, partially offsetting losses in the Chinese market.
For China, reduced imports improve the trade balance.
• Long run: Persistent rand weakness may enhance South Africa’s global
competitiveness, though relations with China may deteriorate. Conversely, the
stronger yuan against the rand may make Chinese exports less affordable in South
Africa, altering trade flows.
• Key insight: Tariffs not only disrupt trade flows but also generate significant
spillovers in currency markets by shifting foreign exchange demand and supply
dynamics.
2
ASSIGNMENT 02
SECOND SEMESTER
DUE YEAR 2025
, ECS3703 ASSIGNMENT 02 SECOND SEMESTER DUE YEAR 2025
Question 1 [15 Marks]
Assuming that South Africa trades with China, use a fully labelled diagram
to explain what would happen to China’s foreign exchange market if the
Chinese government decides to increase the tariffs imposed on South African
exports to China.
Diagram
Price of Rand (CNY/ZAR)
SZAR
Tariff reduces imports
⇒ Demand for ZAR falls
E0
P0
P1
E1
D0
D1 Quantity of Rand (ZAR)
Q1 Q0
Explanation and Discussion
1. Market Context
The diagram represents the Chinese foreign exchange (FX) market for the South
African rand (ZAR). Two fundamental forces drive this market:
• The demand for rand (D) arises from Chinese importers who require rand to
purchase South African goods and services.
• The supply of rand (S) originates from South Africans converting rand into
yuan to buy Chinese goods or invest in China.
1
, 2. Tariff-Induced Shock
When China raises tariffs on South African exports:
• South African goods become more expensive in China.
• Chinese importers reduce their purchases of South African goods.
• Consequently, the demand for rand decreases, shifting the demand curve leftward
from D0 to D1 .
3. Market Adjustment and New Equilibrium
The reduction in demand for rand produces a new market equilibrium:
• The equilibrium moves from E0 to E1 , reducing the exchange rate from P0 to P1 .
This signifies a depreciation of the rand and a corresponding appreciation
of the yuan.
• The traded volume of rand falls from Q0 to Q1 , reflecting weaker trade flows
between China and South Africa.
4. Broader Implications and Academic Insight
The FX market adjustment extends beyond the immediate shift in exchange rates:
• Short run: South Africa suffers reduced export revenues, while China strengthens
its currency position against the rand. Trade volumes contract as imports decline.
• Medium run: South Africa may diversify its export destinations. A weaker rand
could stimulate exports globally, partially offsetting losses in the Chinese market.
For China, reduced imports improve the trade balance.
• Long run: Persistent rand weakness may enhance South Africa’s global
competitiveness, though relations with China may deteriorate. Conversely, the
stronger yuan against the rand may make Chinese exports less affordable in South
Africa, altering trade flows.
• Key insight: Tariffs not only disrupt trade flows but also generate significant
spillovers in currency markets by shifting foreign exchange demand and supply
dynamics.
2
