Suppose that Econland adopts a ﬁxed exchange-rate system and pegs the value of its peso to the U.S. dollar. If Econlanders' demand for dollars increases in the foreign exchange markets, then
Econland's foreign-exchange reserves will
A) increase.
B) decrease.
C) stay the same.
D) equal the trade balance.

Question

Quizplus · Accepted Answer

To maintain the fixed exchange rate, Econland's central bank would need to sell U.S. dollars and buy its own currency, the peso, to satisfy the increased demand for dollars. This action would decrease Econland's foreign-exchange reserves.

Suppose That Econland Adopts a ﬁXed Exchange-Rate System and Pegs