Question 1

If virtually all speculators buy a currency just before what would be the cyclical low points in the currency's value without speculative activity, this speculation is likely to be__________ with respect to its impact on the amplitude of the cycle; if the speculators Sell the currency just before what would otherwise be the high values of the currency During its fluctuations, this speculation __________ in its impact on the amplitude of the Cycle..

Accepted Answer

When speculators buy a currency at its low point, they increase demand, which can raise the currency's value, thus stabilizing the cycle. Similarly, selling at high points decreases demand, lowering the currency's value, also stabilizing the cycle.

Question 2

The optimal size of international reserves occurs for a country at the point where the

Accepted Answer

The optimal size of international reserves occurs where the marginal benefit of holding the reserves equals the marginal cost of holding the reserves. This is because at this point, the country is getting the most benefit out of holding reserves without incurring any additional cost. If the marginal benefit exceeds the marginal cost, the country should continue to accumulate reserves until the marginal benefit equals the marginal cost. However, if the marginal cost exceeds the marginal benefit, the country should reduce its reserve holdings.

Question 3

In comparing the size of central bank reserves relative to world imports in the 1948-1972 Period (a relatively fixed exchange rate period) with the same ratio from 1973 onward (a Relatively flexible exchange rate period), the ratio has been __________ in the more Recent period. This result __________ consistent with the theoretical expectation of Economists.

Accepted Answer

The ratio of central bank reserves relative to world imports has been smaller in the more recent period, which is consistent with the theoretical expectation of economists. In a relatively fixed exchange rate period, central banks would need to hold larger reserves to maintain the fixed exchange rate, whereas in a relatively flexible exchange rate period, the need for reserves is reduced.

Question 4

Present the argument that the adoption of flexible rates would lead to a removal of restrictions on trade. Do you agree that these controls would be eliminated? Does the adoption of flexible rates undermine all the reasons for seeking protection that were covered in the trade policy section of this course? Explain.

Accepted Answer

The answer of Present the argument that the adoption of...

Question 5

Using the IS/LM/BP framework, explain how two of the following shocks impact on the domestic economy under flexible exchange rates and under fixed exchange rates.
(a) an increase in the foreign rate of interest
(b) a decrease in foreign income
(c) a decrease in foreign prices

Accepted Answer

The answer of Using the IS/LM/BP framework, explain how two...

Question 6

If a country adopts a currency board arrangement, a result is that the country's money supply __________ be increased by the purchase of domestic assets from the country's citizens by the country's central bank; in this arrangement, the country's money supply __________ be increased by the purchase of foreign assets from the country's citizens by the country's central bank.

Accepted Answer

In a currency board arrangement, the central bank is required to hold foreign currency reserves equal to the amount of domestic currency in circulation. This means that the central bank cannot increase the money supply by purchasing domestic assets, as that would lead to an increase in the amount of domestic currency in circulation without a corresponding increase in foreign currency reserves. However, the central bank can increase the money supply by purchasing foreign assets, as that would lead to an increase in the amount of foreign currency reserves, which can then be used to issue more domestic currency.

Question 7

In a situation of imperfect short-term capital mobility between countries, if the BP curve Is flatter than the LM curve for country A, then an internal real sector shock in country A (such as an autonomous increase in real investment spending) will have a __________ Impact on A's national income under fixed exchange rates than under flexible exchange Rates; if the BP curve is steeper than the LM curve for country A, then that internal real Sector shock __________ impact on A's income under fixed exchange rates than under Flexible exchange rates.

Accepted Answer

When the BP curve is flatter than the LM curve, it indicates that the capital mobility is quite low, and the country is not able to absorb external shocks. Hence, an internal real sector shock will have a larger impact on the country's national income under fixed exchange rates as compared to flexible exchange rates. On the other hand, when the BP curve is steeper than the LM curve, it suggests that the country has a high level of capital mobility, and hence it can easily absorb external shocks. Thus, the internal real sector shock would have a smaller impact on the country's income under fixed exchange rates as compared to flexible exchange rates.

Question 8

What case could be made for a wider "band" of permitted exchange rate changes of the home currency against some foreign currencies (say 15 percent) than against some other foreign currencies (say 10 percent)? What case could be made against this difference in width of permitted variations? Explain.

Accepted Answer

The answer of What case could be made for a...

Question 9

Describe the features of a currency board arrangement. Then indicate general conditions under which the adoption of a currency board by a country would be desirable for the country.

Accepted Answer

The answer of Describe the features of a currency board...

Question 10

If an important oil exporter such as Saudi Arabia were successful in raising the price of petroleum in the next few weeks, would a flexible exchange rate or a fixed exchange rate for the United States be better for mitigating the negative economic impact upon the United States? Why?

Accepted Answer

The answer of If an important oil exporter such as...

Question 11

A major advantage of the system of flexible exchange rates (as opposed to fixed exchange rates) is commonly thought to be

Accepted Answer

Under flexible exchange rates, the central bank can use monetary policy to influence the domestic economy without having to consider the impact on the exchange rate. This allows for greater effectiveness of monetary policy in influencing national income.

Question 12

A situation where a country announces a parity value for its currency and permits small variations around that value, but also adjusts the parity regularly by small amounts according to various indicators, is known as

Accepted Answer

A crawling peg system is a type of exchange rate regime where a country's currency is pegged to another currency, such as the US dollar, but the peg is adjusted periodically by small amounts according to various economic indicators. This allows for some flexibility in the exchange rate, while still maintaining stability. It is sometimes also referred to as a managed float, but that term can encompass other exchange rate regimes as well. A dirty float involves larger fluctuations in the exchange rate and less government intervention, while a wider band allows for larger fluctuations within a set range. A managed float strategy of "leaning against the wind" involves government intervention to counteract market fluctuations, but does not necessarily involve a specific parity value or crawling peg.

Question 13

In view of the theory of optimum currency areas, a country would be a good candidate for membership in such an area if it had a __________ degree of factor mobility with other potential member countries of the currency area and if the country were a relatively__________ economy.

Accepted Answer

According to the theory of optimum currency areas, a country would be a good candidate for membership in such an area if it had a high degree of factor mobility with other potential member countries of the currency area and if the country were a relatively open economy. This means that people, goods, and capital should be able to move easily between the member countries, and the economies of the member countries should be closely integrated. Therefore, the best choice is option D: high degree of factor mobility and open economy.

Question 14

If a country's BP curve is flatter than its LM curve, then an external financial shock of a rise in interest rates abroad would, under flexible exchange rates, lead to __________ in The home country's national income. If exchange rates were fixed, this external financial shock would __________ in the home country's national income.

Accepted Answer

The answer of If a country's BP curve is flatter...

Question 15

How could exchange rate protection of, for example, 10 percent, be duplicated in its effects across export and import-substitute industries by using tariffs and subsidies instead? Explain. Suppose that you are a firm in an import-substitute industry that is currently receiving less protection than most other import-substitute industries. Would you be in favor of scrapping the existing protection framework and adoption of exchange rate protection as an alternative policy? Explain.

Accepted Answer

The answer of How could exchange rate protection of, for...

Question 16

Proponents of fixed exchange rates would find the most support for their position in which one of the following empirical results regarding the relationship between
Exchange rate variations and the volume of international trade? (Assume that the empirical tests adequately account for other factors that influence the volume of trade.)

Accepted Answer

A negative relationship between exchange rate variations and the volume of trade supports the proponents of fixed exchange rates because it suggests that exchange rate volatility negatively impacts international trade, thereby arguing for the stability that fixed exchange rates provide.

Question 17

The IS/LM/BP analysis suggests that an external real sector shock, such as a rise in national income abroad will cause, under fixed exchange rates, a __________ shift in a Home country's BP curve (assuming that short-term financial capital is not perfectly Mobile), a __________ in the home country's balance of payments, and __________ in The home country's national income.

Accepted Answer

A rise in national income abroad increases demand for the home country's exports, improving the balance of payments and increasing national income, which shifts the BP curve rightward under fixed exchange rates.

Question 18

Suppose that a currency plummets downward because of speculation against it. Can it necessarily be stated that this speculation is "destabilizing" in nature? Why or why not?

Accepted Answer

The answer of Suppose that a currency plummets downward because...

Question 19

In theory, business cycles are __________ likely to be transmitted from one country to another under a system of fixed exchange rates than under a system of flexible exchange rates. It is also a generally-accepted theoretical result by economists that monetary policy is __________ useful for dampening business cycle activity under a system of fixed exchange rates than under a system of flexible exchange rates.

Accepted Answer

Business cycles are more likely to be transmitted from one country to another under a system of fixed exchange rates because countries cannot adjust their exchange rates to buffer against external economic shocks. Additionally, monetary policy is less useful for dampening business cycle activity under a system of fixed exchange rates because the central bank's ability to adjust interest rates is constrained by the need to maintain the fixed exchange rate.

Question 20

Explain why it is alleged that a system of flexible exchange rates could have "wasteful resource movements." Why are these movements thought to be wasteful? Don't resources need to move between sectors as demand, cost, and profitability conditions change in a dynamic economy?

Accepted Answer

The answer of Explain why it is alleged that a...

Quiz 28: Fixed or Flexible Exchange Rates