Which of the following is a self-correcting tendency in the market when an economy is in the inflation-and-deficit zone?
A) The loss of foreign exchange reserves compels the government to impose price controls and trade controls.
B) The macroeconomic imbalances cause international lenders to increase the interest rate on the country's external debt.
C) Domestic inflation reduces the real exchange rate.
D) All of the above.

Question

Quizplus · Accepted Answer

Domestic inflation reduces the real exchange rate, which means that foreign goods become relatively cheaper and domestic goods become relatively more expensive. This leads to a decrease in imports and an increase in exports, which helps to correct the trade deficit and the inflation in the economy. Option A is incorrect because price controls and trade controls are not effective long-term solutions to inflation and deficits, and may even exacerbate them. Option B may apply in some cases, but it is more of an external factor beyond the control of the country.

Which of the Following Is a Self-Correcting Tendency in the Market