Suppose that Econland adopts a fixed exchange-rate system and pegs the value of its peso to the U.S. dollar. Which of the following statements is true?
A)Econland's government will have a limited capacity to maintain the peg at the current level if the supply of dollars in the foreign exchange market is continually rising.
B)Econland's government will have a limited capacity to maintain the peg at the current level if the demand for pesos in the foreign exchange market is continually falling.
C)Econland's government will have a limited capacity to maintain the peg at the current level if the demand for Econland's products in the world market is strongly rising.
D)Econland's government will have a limited capacity to maintain the peg at the current level if the demand for U.S. products in Econland is sharply falling.

Question

Quizplus · Accepted Answer

If the demand for pesos is continually falling, Econland's government will need to use its foreign reserves to buy pesos to maintain the peg, which can deplete reserves and limit its capacity to maintain the peg.

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