Assume that the exchange rates are fixed. When money demand is less sensitive to interest rate changes than are international capital flows, _____ policy will be _____ effective than when money demand is more sensitive to interest changes than are international capital flows.
A)expansionary fiscal; more
B)expansionary fiscal; less
C)expansionary monetary; more
D)sterilized intervention; more

Question

Quizplus · Accepted Answer

When money demand is less sensitive to interest rate changes than are international capital flows, expansionary fiscal policy will be more effective. This is because expansionary fiscal policy will lead to a decrease in interest rates, which will make it more attractive for domestic residents to hold domestic money. As a result, the demand for domestic money will increase, which will lead to an appreciation of the domestic currency. This appreciation will make it more expensive for domestic residents to purchase foreign goods and services, which will lead to a decrease in imports. The decrease in imports will lead to an increase in net exports, which will help to boost economic growth.

Assume That the Exchange Rates Are Fixed