How does contractionary monetary policy affect interest rates and net exports in an open economy?
A)Contractionary monetary policy increases exports and reduces imports because of higher interest rates.
B)Contractionary monetary policy reduces exports and increases imports because of higher interest rates.
C)Contractionary monetary policy increases exports and increases imports because of lower interest rates.
D)Contractionary monetary policy reduces exports and reduces imports because of lower interest rates.

Question

Quizplus · Accepted Answer

Contractionary monetary policy involves the central bank reducing the money supply and raising interest rates. This makes borrowing more expensive, leading to a decrease in consumer spending and investment. As a result, this decreases aggregate demand and GDP. Higher interest rates also reduce investment and borrowing for consumption, which may lead to a reduction in net exports. As a result, the trade balance deteriorates, as exports decrease and imports increase due to higher interest rates.

How Does Contractionary Monetary Policy Affect Interest Rates and Net