If the Bank of Canada allows the exchange rate to vary freely, which effect will an expansionary fiscal policy have?
A) It will cause a large and permanent rightward shift of the AD curve.
B) It will cause a large and permanent leftward shift of the AD curve.
C) It will have no permanent effect on the position of the AD curve, but it will cause interest rates to permanently increase.
D) It will have no permanent effect on either the position of the AD curve or the interest rate.

Question

Quizplus · Accepted Answer

If the Bank of Canada allows the exchange rate to vary freely, expansionary fiscal policy will have no permanent effect on either the position of the AD (Aggregate Demand) curve or the interest rate. This is because the exchange rate will adjust automatically to offset any changes in demand or supply in the economy. As a result, the overall impact of fiscal policy on the economy will be limited and temporary.

If the Bank of Canada Allows the Exchange Rate to Vary