Under the system of freely floating exchange rates, if a country's imports rise to exceed its exports:
A) the country will experience an outflow of gold.
B) the country will have to negotiate a loan from the International Monetary Fund.
C) the country's currency will depreciate enough in relation to other currencies to restore its payments balance.
D) a contractionary monetary policy will be required.

Question

Quizplus · Accepted Answer

Under a system of freely floating exchange rates, if a country's imports exceed its exports, the demand for foreign currencies will increase (to pay for the imports) while the demand for the country's own currency will decrease. This leads to a depreciation of the country's currency relative to others, making its exports cheaper and imports more expensive, which can help restore balance in its payments. Options A, B, and D are not automatic mechanisms under freely floating exchange rates.

Under the System of Freely Floating Exchange Rates, If a Country's