Question 1

As the only currency that could be converted into gold, the British pound occupied a central place in the fixed exchange rate system.

Accepted Answer

The system of fixed exchange rates established at Bretton Woods worked well until the late 1960s, when it began to show signs of strain. As the only currency that could be converted into gold, and as the currency that served as the reference point for all others, the dollar occupied a central place in the system.

Question 2

The international monetary system refers to a system to regulate fixed exchange rates before the introduction of the euro.

Accepted Answer

The international monetary system refers to the institutional arrangements that govern exchange rates.

Question 3

When the Bretton Woods participants established the World Bank, the need to lend money to third-world nations was foremost in their minds.

Accepted Answer

When the Bretton Woods participants established the World Bank, the need to reconstruct the war-torn economies of Europe was foremost in their minds. The bank's initial mission was to help finance the building of Europe's economy by providing low-interest loans.

Question 4

The major problem with the gold standard was that no multinational institution could stop countries from engaging in competitive devaluations.

Accepted Answer

The Bretton Woods conference participants wanted to avoid the senseless competitive devaluations of the 1930s, and they recognized that the gold standard would not assure this. The major problem with the gold standard was that no multinational institution could stop countries from engaging in competitive devaluations.

Question 5

Under a floating exchange rate regime, market forces have produced a volatile dollar exchange rate.

Accepted Answer

In recent history, the value of the dollar has been determined by both market forces and government intervention. Under a floating exchange rate regime, market forces have produced a volatile dollar exchange rate.

Question 6

According to the Bretton Woods agreement, if a currency became too weak to defend, a devaluation of up to 10 percent would be allowed without any formal approval by the International Monetary Fund.

Accepted Answer

An aspect of the Bretton Woods agreement was a commitment not to use devaluation as a weapon of competitive trade policy. However, if a currency became too weak to defend, a devaluation of up to 10 percent would be allowed without any formal approval by the International Monetary Fund (IMF). Larger devaluations required IMF approval.

Question 7

A country is said to be in balance-of-trade equilibrium when the income its residents earn from exports is greater than the money its residents pay to other countries for imports.

Accepted Answer

The great strength claimed for the gold standard was that it contained a powerful mechanism for achieving balance-of-trade equilibrium by all countries. A country is said to be in balance-of-trade equilibrium when the income its residents earn from exports is equal to the money its residents pay to other countries for imports (the current account of its balance of payments is in balance).

Question 8

Under a pegged exchange rate regime, a country will peg the value of its currency to that of a major currency, so that if the reference currency rises in value, its own currency rises too.

Accepted Answer

Under a pegged exchange rate regime, a country will peg the value of its currency to that of a major currency so that, for example, as the U.S. dollar rises in value, its own currency rises too. Pegged exchange rates are popular among many of the world's smaller nations.

Question 9

Under the gold standard, a country in balance-of-trade equilibrium will experience a net inflow of gold from other countries.

Accepted Answer

Under the gold standard, when a country has a trade surplus, there will be a net flow of gold from other countries into that country.

Question 10

When the foreign exchange market determines the relative value of a currency, we say that the country is adhering to a pegged exchange rate regime.

Accepted Answer

When the foreign exchange market determines the relative value of a currency, we say that the country is adhering to a floating exchange rate regime. Four of the world's major trading currencies-the U.S. dollar, the European Union's euro, the Japanese yen, and the British pound-are all free to float against each other.

Question 11

The Bretton Woods system could work only as long as the U.S. inflation rate remained low and the United States did not run a balance-of-payments deficit.

Accepted Answer

The Bretton Woods system could work only as long as the U.S. inflation rate remained low and the United States did not run a balance-of-payments deficit. Once these things occurred, the fixed exchange rate system soon became strained to the breaking point.

Question 12

Since March 1973, currency exchange rates have become less volatile and more predictable than they were between 1945 and 1973.

Accepted Answer

Since March 1973, currency exchange rates have become much more volatile and less predictable than they were between 1945 and 1973. This volatility has been partly due to a number of unexpected shocks to the world monetary system.

Question 13

A pegged exchange rate means the value of the currency is fixed relative to a reference currency, and then the exchange rate between that currency and other currencies is determined by the reference currency exchange rate.

Accepted Answer

Many of the world's developing nations peg their currencies, primarily to the dollar or the euro. A pegged exchange rate means the value of the currency is fixed relative to a reference currency, such as the U.S. dollar, and then the exchange rate between that currency and other currencies is determined by the reference currency exchange rate.

Question 14

Under the fixed exchange rate system, the dollar could be devalued only if all countries agreed to simultaneously revalue against the dollar.

Accepted Answer

Devaluation of the dollar was no easy matter. Under the Bretton Woods provisions, any other country could change its exchange rates against all currencies simply by fixing its dollar rate at a new level. As the key currency in the fixed exchange rate system, the dollar could be devalued only if all countries agreed to simultaneously revalue against the dollar.

Question 15

In a fixed exchange rate system, the central bank of a country will intervene in the foreign exchange market to try to maintain the value of its currency if it depreciates too rapidly against an important reference currency.

Accepted Answer

A dirty float (as opposed to a clean float) is called so because the central bank of a country will intervene in the foreign exchange market to try to maintain the value of its currency if it depreciates too rapidly against an important reference currency.

Question 16

The architects of the Bretton Woods agreement wanted to avoid high unemployment, so they built the fixed exchange rate system to be highly inflexible.

Accepted Answer

Although monetary discipline was a central objective of the Bretton Woods agreement, it was recognized that a rigid policy of fixed exchange rates would be too inflexible. The architects of the Bretton Woods agreement wanted to avoid high unemployment, so they built limited flexibility into the system.

Question 17

Under the International Bank for Reconstruction and Development scheme, the World Bank offers low-interest loans to risky customers whose credit rating is often poor.

Accepted Answer

Under the International Bank for Reconstruction and Development (IBRD) scheme, money is raised through bond sales in the international capital market. Borrowers pay what the bank calls a market rate of interest-the bank's cost of funds plus a margin for expenses. This "market" rate is lower than commercial banks' market rate. Under this scheme, the World Bank offers low-interest loans to risky customers whose credit rating is often poor, such as the governments of underdeveloped nations.

Question 18

Given a common gold standard, the value of any currency in units of any other currency (the exchange rate) was easy to determine.

Accepted Answer

Pegging currencies to gold and guaranteeing convertibility is known as the gold standard. By 1880, most of the world's major trading nations, including Great Britain, Germany, Japan, and the United States, had adopted the gold standard. Given a common gold standard, the value of any currency in units of any other currency (the exchange rate) was easy to determine.

Question 19

If more dollars are needed to buy an ounce of gold than before, the implication is that the dollar is worth more.

Accepted Answer

The United States returned to the gold standard in 1934, raising the dollar price of gold from $20.67 per ounce to $35 per ounce. Because more dollars were needed to buy an ounce of gold than before, the implication was that the dollar was worth less. This effectively amounted to a devaluation of the dollar relative to other currencies.

Question 20

Under a floating exchange rate system, a country's ability to expand or contract its money supply as it sees fit is limited by the need to maintain exchange rate parity.

Accepted Answer

It is argued that under a fixed system, a country's ability to expand or contract its money supply as it sees fit is limited by the need to maintain exchange rate parity. Monetary expansion can lead to inflation, which puts downward pressure on a fixed exchange rate. Similarly, monetary contraction requires high interest rates (to reduce the demand for money). Higher interest rates lead to an inflow of money from abroad, which puts upward pressure on a fixed exchange rate.

Quiz 11: The International Monetary System