Deck 6: Exchange Rate History and the Role of Governments

Question 1

The Bretton Woods Agreement created a system under which exchange rates are determined by market forces without intervention by various governments.

Answer 1

False

Question 2

In a sterilized exchange rate arrangement, a country's home currency value is pegged to a foreign currency or to some unit of account.

Answer 2

False

Question 3

Which of the following is not true regarding Thailand?

A) Thailand was one of the slowest growing countries over the 1985-1994 period.
B) High levels of spending and low levels of saving placed upward pressure on prices of real estate, products, and on Thailand's local interest rate.
C) Thailand's baht was linked to the dollar prior to July 1997, which made Thailand an attractive site for foreign investors.
D) Thai banks provided many loans that were very risky in their attempt to make use of all of their funds.
E) All of the above are true.

Answer 3

A

Question 4

Classified exchange rate systems include which of the following?

A) Fixed rate system
B) Freely floating system
C) Managed float system
D) All of the above

Question 5

The currency of country X is pegged to the currency of country Y. Assume that county Y's currency depreciates against the currency of country Z. It is likely that country X will export ____ to country Z and import ____ from country Z.

A) more; more
B) less; less
C) more; less
D) less; more

Question 6

Dollarization refers to the replacement of local currency with US dollars.

Question 7

A strong home currency can harm exports; exporters typically benefit from a weaker home country currency.

Question 8

The euro is pegged to other currencies of European countries that have not adopted the euro.

Question 9

If the European Central Bank desires to weaken the euro without affecting the euro money supply, it should:

A) exchange euros for foreign currencies, and sell some of its existing Treasury security holdings for euros.
B) exchange foreign currencies for euros, and sell some of its existing Treasury security holdings for euros.
C) exchange euros for foreign currencies, and buy existing Treasury securities with euros.
D) exchange foreign currencies for euros, and buy existing Treasury securities with euros.

Question 10

As foreign exchange activity has grown:

A) central bank intervention has become more effective.
B) central bank intervention has become more frequent.
C) central bank intervention has become less effective.
D) none of the above

Question 11

The euro is the currency:

A) adopted in all western European countries as of 1999.
B) adopted in all eastern European countries as of 1999.
C) adopted in all European countries as of 1999.
D) none of the above

Question 12

An example of indirect intervention by the Bank of Japan would be for the Bank of Japan to use interest rates to increase the value of the Yen vs. the dollar.

Question 13

Under a fixed exchange rate system:

A) a foreign exchange market does not exist.
B) central bank intervention in the foreign exchange market is not necessary.
C) central bank intervention in the foreign exchange market is often necessary.
D) central bank intervention in the foreign exchange market is not allowed.

Question 14

Under a pegged exchange rate system, the home currency's value is pegged to a foreign currency or to some unit of account.

Question 15

The interest rate of a country with a currency board:

A) is less stable than it would be without a currency board.
B) is typically below the interest rate of the currency to which it is tied.
C) will move in tandem with the interest rate of the currency to which it is tied.
D) is completely independent of the interest rate of the currency to which it is tied.

Question 16

It has been argued that the exchange rate can be used as a policy tool. Assume that the UK government would like to reduce unemployment. Which of the following is an appropriate action given this scenario?

A) Weaken the pound
B) Strengthen the pound
C) Buy pounds with foreign currency in the foreign exchange market
D) Implement a tight monetary policy

Question 17

Currency devaluation can boost a country's exports, but currency revaluation can increase foreign competition.

Question 18

A country with a currency board does not have control over its local interest rates.

Question 19

A weak euro is normally expected to cause:

A) high unemployment and high inflation in the euro area.
B) high unemployment and low inflation in the euro area.
C) low unemployment and low inflation in the euro area.
D) low unemployment and high inflation in the euro area.

Question 20

Assume a central bank exchanges its currency for other foreign currencies in the foreign exchange market, but does not adjust for the resulting change in the money supply. This is an example of:

A) pegged intervention.
B) indirect intervention.
C) nonsterilized intervention.
D) sterilized intervention.
E) A and D

Question 21

Which of the following countries was probably the least affected (directly or indirectly) by the Asian crisis?

A) Thailand
B) Indonesia
C) Russia
D) China
E) Malaysia

Question 22

It has been argued that the exchange rate can be used as a policy tool. Assume that the UK government would like to reduce inflation. Which of the following is an appropriate action given this scenario?

A) Sell pounds for foreign currency.
B) Buy pounds with foreign currency.
C) Lower interest rates.
D) None of the above

Question 23

A major advantage of the euro is the complete elimination of exchange rate risk on transactions between participating European countries, which encourages more trade and capital flows within Europe.

Question 24

During the period 1944-1971, the UK used a ____ system.

A) euro exchange rate
B) fixed
C) dirty float
D) flexible

Question 25

Which of the following is an example of direct intervention in foreign exchange markets?

A) Lowering interest rates
B) Increasing the discount rate
C) Exchanging pounds for foreign currency
D) Imposing barriers on international trade

Question 26

A primary result of the Smithsonian Agreement was:

A) the establishment of the European Monetary System (EMS).
B) establishing that exchange rates of most major countries were to be allowed to fluctuate 2.25% above or below their initially set values.
C) establishing specific rules for when tariffs and quotas could be imposed by governments.
D) establishing that exchange rates of most major currencies were to be allowed to fluctuate freely without boundaries (although the central banks did have the right to intervene when necessary).

Question 27

Which of the following are examples of currency controls?

A) Import restrictions
B) Prohibition of remittance of funds
C) Ceilings on granting credit to foreign firms
D) All of the above

Question 28

A strong pound places ____ pressure on inflation, which in turn places ____ pressure on the euro.

A) upward; upward
B) downward; upward
C) upward; downward
D) downward; downward

Question 29

Nonsterilized intervention is intervention by a central bank in the foreign exchange market without adjusting for the change in money supply.

Question 30

Assume countries A, B, and C produce goods that are substitutes of each other and that these countries engage in trade with each other. Assume that country A's currency floats against country B's currency, and that country C's currency is pegged to B's. If A's currency depreciates against B, then A's exports to C should ____, and A's imports from C should ____.

A) decrease; increase
B) decrease; decrease
C) increase; decrease
D) increase; increase

Question 31

A possible reason why China was less affected by the Asian crisis is that its government exerts more influence on private enterprise than the governments of other Asian countries.

Question 32

The term "target zone arrangement" refers to a:

A) situation where countries adjust their national economic policies to maintain exchange rates within some predetermined limits.
B) system where several central banks act in a coordinated intervention to keep the price of one country's currency within reasonable trading ranges.
C) system where currencies are pegged to gold, or to hard currency.
D) system where local currencies are replaced by dollars.

Question 33

Consider two countries that trade with each other, called X and Y. According to the text, inflation in Country X will have a greater impact on inflation in Country Y under the ____ system. Now, consider two other countries that trade with each other, called A and B. Unemployment in Country A will have a greater impact on unemployment in Country B under the ____ system.

A) floating rate; fixed rate
B) floating rate; floating rate
C) fixed rate; fixed rate
D) fixed rate; floating rate

Question 34

The Fed's indirect method of intervention is to trade dollars for or against other currencies.

Question 35

If a government wishes to stimulate its economy in the form of increased foreign demand for its country's products, it could attempt to weaken its currency.

Question 36

When using indirect intervention, a central bank is likely to focus on:

A) inflation.
B) interest rates.
C) income levels.
D) expectations of future exchange rates.

Question 37

The European countries conforming to the euro are completely insulated from movements in the euro's value with respect to other currencies.

Question 38

A country with fixed exchange rates often faces constraints on growth.

Question 39

A potential advantage of exchange rate target zones is that they may stabilize international trade patterns by reducing exchange rate volatility.

Question 40

Under a managed float exchange rate system, the Bank of England may attempt to stimulate the UK economy by ____ the pound. Such an adjustment in the pound's value should ____ the UK demand for products produced by major foreign countries.

A) weakening; increase
B) weakening; decrease
C) strengthening; increase
D) strengthening; decrease

Question 41

The exchange rate mechanism (ERM) refers to the method of linking ____ currencies to each other within boundaries.

A) Latin American
B) European
C) Asian
D) North American

Question 42

An advantage of freely floating exchange rates is that a country with floating exchange rates is more insulated from unemployment problems in other countries.

Question 43

The Bank of England is responsible for setting the monetary policy for the European countries participating in the euro.

Question 44

A weaker pound places ____ pressure on UK inflation, which in turn places ____ pressure on UK interest rates, which places ____ pressure on UK bond prices.

A) upward; downward; upward
B) upward; downward; downward
C) upward; upward; downward
D) downward; upward; upward
E) downward; downward; upward

Question 45

To strengthen the pound using sterilized intervention, the Bank of England would ____ pounds and simultaneously ____ Treasury securities.

A) buy; sell
B) sell; buy
C) buy; buy
D) sell; sell

Question 46

Under a fixed exchange rate system, US inflation would have a greater impact on inflation in other countries than it would under a freely floating exchange rate system.

Question 47

The exchange rate mechanism (ERM) crisis in 1992 represents the ____ in German interest rates that caused other European interest rates to ____, and resulted in less aggregate spending.

A) increase; increase
B) increase; decrease
C) decrease; decrease
D) decrease; increase

Question 48

A primary result of the Bretton Woods Agreement was:

A) the establishment of the European Monetary System (EMS).
B) establishing specific rules for when tariffs and quotas could be imposed by governments.
C) establishing that exchange rates of most major currencies were to be allowed to fluctuate 1% above or below their initially set values.
D) establishing that exchange rates of most major currencies were to be allowed to fluctuate freely without boundaries (although the central banks did have the right to intervene when necessary).

Question 49

Which of the following are true about the Southeast Asian currency crisis?

A) It was preceded by several years of large capital inflows to Asia.
B) It was preceded by a five-year recession in Asia.
C) Asian interest rates declined during the crisis.
D) Asian exchange rates were converted from floating to fixed to resolve the crisis.

Question 50

The value of the Canadian dollar, Japanese yen, and Australian dollar with respect to the US dollar are part of a:

A) pegged system.
B) fixed system.
C) managed float system.
D) crawling peg system.

Question 51

Market forces are the determinant of exchange rates in a freely floating exchange rate system.

Question 52

The Smithsonian Agreement was reached in September 1985 by seven major industrialized countries to systematically weaken the dollar.

Question 53

From a financial management perspective, which of the following is true regarding the introduction of the Euro?

A) US-based MNCs are not subject to exchange rate risk when they have transactions in euros.
B) The euro is pegged to all other European currencies.
C) Transactions costs decline for MNCs that conduct transactions within Europe.
D) The euro replaced the British pound.

Question 54

An advantage of a fixed exchange rate system is that governments are not required to constantly intervene in the foreign exchange market to maintain exchange rates within specified boundaries.

Question 55

The establishment of the euro allows for more consistent economic conditions across countries but eliminates the power of any individual European country to solve local economic problems with its own unique monetary policy.

Question 56

The Asian crisis is generally believed to have started in Japan.

Question 57

To force the value of the British pound to depreciate against the dollar, the Federal Reserve should:

A) sell dollars for pounds in the foreign exchange market and the Bank of England should sell dollars for pounds in the foreign exchange market.
B) sell pounds for dollars in the foreign exchange market and the Bank of England should sell dollars for pounds in the foreign exchange market.
C) sell pounds for dollars in the foreign exchange market and the Bank of England should sell pounds for dollars in the foreign exchange market.
D) sell dollars for pounds in the foreign exchange market and the Bank of England should sell pounds for dollars in the foreign exchange market.

Question 58

Which of the following is true regarding the euro?

A) Exchange rate risk between participating European currencies is completely eliminated, encouraging more trade and capital flows across European borders.
B) It allows for more consistent economic conditions across countries.
C) It prevents each country from conducting its own monetary policy.
D) All of the above are true.

Question 59

A strong euro is normally expected to cause:

A) high unemployment and high inflation in the euro area.
B) high unemployment and low inflation in the euro area.
C) low unemployment and low inflation in the euro area.
D) low unemployment and high inflation in the euro area.

Question 60

Under the system known as the "dirty" float, official boundaries for the exchange rate exist, but they are wider than they are under a fixed exchange rate system.

Question 61

The European Central Bank is responsible for monetary policy in all participating European countries.

Question 62

Countries that have adopted the euro must agree on a single ____ policy.

A) monetary
B) fiscal
C) worker compensation
D) foreign relations

Question 63

The Bretton Woods Agreement called for the establishment of a single European currency.

Question 64

All European countries now use the euro as their currency.

Question 65

The Bank of England may use a stimulative monetary policy with least concern about causing inflation if the pound's value is expected to:

A) remain stable.
B) strengthen.
C) weaken.
D) none of the above will have an impact on inflation.

Question 66

To force the value of the dollar to appreciate against the pound, the Federal Reserve should:

A) sell pounds for dollars in the foreign exchange market and the Bank of England should sell pounds for dollars in the foreign exchange market.
B) sell dollars for pounds in the foreign exchange market and the Bank of England should sell pounds for dollars in the foreign exchange market.
C) sell dollars for pounds in the foreign exchange market and the Bank of England should not intervene.
D) sell dollars for pounds in the foreign exchange market and the Bank of England should sell dollars for pounds in the foreign exchange market.