For this question,assume that the economy is operating in a fixed exchange rate regime and that perfect capital mobility exists.Given this information,which of the following will occur?
A)The domestic and foreign interest rates must be equal.
B)The central bank cannot use monetary policy to affect domestic output.
C)An expansionary fiscal policy will require that the central bank increase the money supply.
D)all of the above
E) none of the above

Question

Quizplus · Accepted Answer

In a fixed exchange rate regime with perfect capital mobility, the exchange rate is fixed and determined by the central bank. As a result, the domestic interest rate must be equal to the foreign interest rate in order to maintain the exchange rate fixed. This implies that choice A is correct. Since monetary policy cannot be used to influence the exchange rate or the interest rate, choice B is correct.
However, fiscal policy can be used to affect output and employment in the short run, but it requires the central bank to increase the money supply in order to prevent an increase in the interest rate that would attract capital inflows and put upward pressure on the exchange rate. This implies that choice C is correct. Therefore, the correct answer is D.

For This Question,assume That the Economy Is Operating in a Fixed