If a central bank conducts open market purchases in the domestic market at the same time as it intervenes in the foreign exchange market by selling foreign currency, it is
A)working at cross purposes
B)sterilizing the foreign exchange intervention
C)implementing an expenditure reducing policy
D)depreciating its currency while increasing domestic money supply
E)appreciating its currency while decreasing domestic money supply

Question

Quizplus · Accepted Answer

By conducting open market purchases in the domestic market, the central bank increases the domestic money supply, which could potentially lead to inflation. However, by intervening in the foreign exchange market and selling foreign currency, the central bank is decreasing the domestic money supply. This action could offset the increase in money supply from the open market purchases, thereby sterilizing the foreign exchange intervention. The central bank is not working at cross purposes, implementing an expenditure reducing policy, or directly manipulating the exchange rate or domestic money supply in a consistent direction.

If a Central Bank Conducts Open Market Purchases in the Domestic