The Economics of Money, Banking, and Financial Markets 10th Edition by Frederic Mishkin

Exercise 23

Suppose the Mexican central bank chooses to peg the peso to the U.S. dollar and commits to a fixed peso/dollar exchange rate. Use a graph of the market for peso assets (foreign exchange) to show and explain how the peg must be maintained if a shock in the U.S. economy forces the Fed to pursue contractionary monetary policy. What does this say about the ability of central banks to address domestic economic problems while maintaining a pegged exchange rate?