Question 1

For Ecuador, an advantage of adopting the dollar as its official currency is that
A) the Federal Reserve becomes Ecuador's lender of last resort.
B) Ecuador escapes the likelihood of a speculative attack.
C) Ecuador's government can capture revenue by issuing currency (called seigniorage).
D) Eduador's monetary policy becomes independent from that of the Federal Reserve.

Accepted Answer

Adopting the dollar helps Ecuador avoid speculative attacks on its currency because it eliminates the risk associated with potential devaluation of a local currency, thus stabilizing the economy.

Question 2

For a developing country, a _____ can promote economic instability because it forces the country to ______.
A) capital inflow, adopt a contractionary monetary policy
B) capital inflow, adopt an expansionary monetary policy
C) capital outflow, devalue its currency
D) capital outflow, revalue its currency

Accepted Answer

A capital outflow can promote economic instability for a developing country because it represents a loss of foreign investment and a decrease in foreign currency reserves, which can lead to a devaluation of the country's currency. In order to maintain stability and prevent further devaluation, the country may have to implement measures such as raising interest rates or cutting government spending, which can have negative impacts on economic growth and development.

Question 3

If a central bank was to prevent its currency from depreciating, it would likely adopt a (an) ______ monetary policy to ______ the domestic interest rate, thus strengthening its currency.
A) contractionary, decrease
B) contractionary, increase
C) expansionary, decrease
D) expansionary, increase

Accepted Answer

To prevent the currency from depreciating, the central bank would adopt a contractionary monetary policy, which involves increasing the domestic interest rate. This makes the currency more attractive to foreign investors, thus strengthening its value relative to other currencies.

Question 4

Small nations, such as Angola and Barbados, peg their currencies to the U.S.dollar since the prices of many of their traded goods are determined in markets in which the dollar is the key currency.

Accepted Answer

Small nations often peg their currencies to the U.S. dollar because it is the key currency in many traded goods markets, which affects the prices of their own exports and imports.

Question 5

Hong Kong provides an example of a country that has maintained a currency board.The purpose of its currency board is to
A) maintain a system of freely floating exchange rates.
B) maintain an especially strong commitment to a fixed exchange rate.
C) to totally replace the currency of Hong Kong with the U.S. dollar.
D) to totally replace the currency of Hong Kong with the euro.

Accepted Answer

Hong Kong's currency board is designed to maintain a fixed exchange rate with the U.S. dollar at a rate of around 7.8 Hong Kong dollars to one U.S. dollar. This represents a strong commitment to the fixed exchange rate system.

Question 6

Smaller nations with relatively undiversified economies and large trade sectors tend to peg their currencies to one of the world's key currencies.

Accepted Answer

This statement is true. Smaller nations with undiversified economies and large trade sectors often face greater currency instability and choose to peg their currencies to a more stable and widely used currency such as the US dollar, Euro, or British pound.

Question 7

A ______ is a type of a fixed exchange rate system in which the commitment to the fixed exchange rate is very firm
A) currency board
B) monetary policy board
C) fiscal policy board
D) customs board

Accepted Answer

A currency board is a type of fixed exchange rate system in which a country's central bank has a legal obligation to maintain a fixed exchange rate with another currency, often the currency of a major trading partner or a widely-used international currency like the US dollar or the euro. Under a currency board system, the central bank must hold sufficient reserves of the foreign currency to allow for the conversion of the local currency at the fixed rate, and cannot create or issue new currency without first acquiring additional reserves of the foreign currency. This makes the commitment to the fixed exchange rate very firm, which helps to provide greater stability and predictability for trade and investment.

Question 8

Today, fixed exchange rates are used primarily by small, developing countries that tie their currencies to a key currency such as the U.S.dollar.

Accepted Answer

Fixed exchange rates are often used by smaller, developing countries to stabilize their currency by tying it to a major currency like the U.S. dollar, which can help reduce inflation and encourage foreign investment by providing more predictability in exchange rates.

Question 9

Since 1974, the major industrial countries have operated under a system of fixed exchange rates based on the gold standard.

Accepted Answer

Since 1974, the major industrial countries have operated under a system of flexible exchange rates, not fixed exchange rates based on the gold standard.

Question 10

For Ecuador, the result of adopting the dollar as its official currency is that
A) its government cannot capture revenue (seigniorage) by issuing currency.
B) there tends to be greater promise of lower interest rates and greater financial stability.
C) the rate of inflation in Ecuador is tied to that of the United States.
D) All of these are correct.

Accepted Answer

Adopting the dollar as its official currency means that Ecuador cannot capture revenue by issuing currency, there is a promise of lower interest rates and greater financial stability, and the rate of inflation is tied to that of the United States.

Question 11

By adopting a currency board, a developing country hopes to
A) drive interest rates down in order to increase domestic investment spending.
B) have its central bank switch from an inflationary policy to a deflationary policy.
C) discourage speculative attacks on its currency.
D) replace monetary policy with fiscal policy during times of economic downturn.

Accepted Answer

By adopting a currency board, a developing country hopes to discourage speculative attacks on its currency by ensuring that the exchange rate is fixed to a stable international currency and by holding sufficient reserves to back the currency in circulation. This can help to boost market confidence and reduce the likelihood of speculative attacks. A currency board does not necessarily affect interest rates, inflation, or fiscal policy.

Question 12

Many developing nations with low inflation rates have pegged their currencies to the U.S.dollar as a way of allowing modest increases in domestic inflation rates.

Accepted Answer

Pegging a currency to the U.S. dollar is typically done to stabilize the currency and control inflation, not to allow increases in domestic inflation rates.

Question 13

For a developing country, a _____ can foster economic instability because it can result in a lending boom and ______ by banks, which promotes a financial crisis.
A) capital inflow, excessive risk taking
B) capital inflow, inadequate risk taking
C) capital outflow, excessive risk taking
D) capital outflow, inadequate risk taking

Accepted Answer

A capital inflow can lead to excessive risk taking by banks as they seek to take advantage of the influx of funds. This can lead to a lending boom, which can create an economic bubble that eventually bursts, leading to a financial crisis.

Question 14

Pegging to a single currency is generally done by developing nations whose trade and financial relationships are mainly with a single industrial-country partner.

Accepted Answer

Pegging to a single currency is generally done by developing nations whose trade and financial relationships are mainly with a single industrial-country partner.

Question 15

If a central bank was to prevent its currency from appreciating, it would likely adopt a (an) ______ monetary policy to ______ the domestic interest rate, thus strengthening its currency.
A) contractionary, decrease
B) contractionary, increase
C) expansionary, decrease
D) expansionary, increase

Accepted Answer

Expansionary monetary policy is used to decrease the domestic interest rate, which can help prevent a currency from appreciating by making investments in that currency less attractive, thus reducing the demand for the currency.

Question 16

Developing countries with more than one major trading partner often peg their currencies to a group or basket of those trading partner currencies.

Accepted Answer

Developing countries with multiple trading partners often find it advantageous to peg their currencies to a basket of those trading partners' currencies to provide stability and balance in their trade relationships.

Question 17

Large industrial nations with diversified economies and small trade sectors have generally pegged their currencies to one of the world's key currencies.

Accepted Answer

Large industrial nations with diversified economies and small trade sectors typically have floating exchange rates rather than pegging their currencies to one of the world's key currencies. Pegging is more common among smaller or developing economies seeking stability and predictability in trade.

Question 18

By the early 1970s, gold had been phased out of the international monetary system.

Accepted Answer

The answer of By the early 1970s, gold had been...

Question 19

Seigniorage refers to
A) the extra tax revenue received by governments when people are pushed up into higher tax brackets.
B) the loss of purchasing power of income due to higher prices.
C) the revenue a government receives by issuing money.
D) the profits that corporations realize on their foreign direct investments.

Accepted Answer

Seigniorage refers to the revenue a government receives by issuing money. This revenue is generated by the difference between the face value of the currency and the cost of producing it. In other words, governments can "create" money at a low cost, and then use it to pay for government expenditures or reduce debt.

Question 20

With a system of fixed exchange rates, a country that exhausts its international reserves in an attempt to keep its currency from _____ will have to ______ its currency
A) depreciating, devalue
B) depreciating, revalue
C) appreciating, devalue
D) appreciating, revalue

Accepted Answer

If a country exhausts its international reserves in an attempt to keep its currency from depreciating, it will have to devalue its currency. This means reducing the value of the currency compared to other countries' currencies. With fixed exchange rates, this is necessary because the country is committed to maintaining the exchange rate between its currency and other currencies at a fixed level, and if its currency is becoming less valuable compared to other currencies due to market forces, the only way to maintain the fixed exchange rate is to devalue the currency.

Quiz 14: Exchange Rate Adjustments and the Balance of Payments

For Ecuador, an advantage of adopting the dollar as its official currency is that

For a developing country, a _ can promote economic instability because it forces the country to __.

If a central bank was to prevent its currency from depreciating, it would likely adopt a (an) monetary policy to the domestic interest rate, thus strengthening its currency.

Small nations, such as Angola and Barbados, peg their currencies to the U.S.dollar since the prices of many of their traded goods are determined in markets in which the dollar is the key currency.

Hong Kong provides an example of a country that has maintained a currency board.The purpose of its currency board is to

Smaller nations with relatively undiversified economies and large trade sectors tend to peg their currencies to one of the world's key currencies.

A ______ is a type of a fixed exchange rate system in which the commitment to the fixed exchange rate is very firm

Today, fixed exchange rates are used primarily by small, developing countries that tie their currencies to a key currency such as the U.S.dollar.

Since 1974, the major industrial countries have operated under a system of fixed exchange rates based on the gold standard.

For Ecuador, the result of adopting the dollar as its official currency is that

By adopting a currency board, a developing country hopes to

Many developing nations with low inflation rates have pegged their currencies to the U.S.dollar as a way of allowing modest increases in domestic inflation rates.

For a developing country, a _ can foster economic instability because it can result in a lending boom and __ by banks, which promotes a financial crisis.

Pegging to a single currency is generally done by developing nations whose trade and financial relationships are mainly with a single industrial-country partner.

If a central bank was to prevent its currency from appreciating, it would likely adopt a (an) monetary policy to the domestic interest rate, thus strengthening its currency.

Developing countries with more than one major trading partner often peg their currencies to a group or basket of those trading partner currencies.

Large industrial nations with diversified economies and small trade sectors have generally pegged their currencies to one of the world's key currencies.

By the early 1970s, gold had been phased out of the international monetary system.

Seigniorage refers to

With a system of fixed exchange rates, a country that exhausts its international reserves in an attempt to keep its currency from _ will have to __ its currency