Figure 13.2
-Refer to Figure 13.2.In a fixed exchange rate regime,if an economy is experiencing external disequilibrium at point B,then to peg the exchange rate the central bank has to:
A) buy domestic currency, sell foreign currency, and shift the IS to the left.
B) buy foreign currency, sell domestic currency, and shift the LM to the right.
C) buy domestic currency, sell foreign currency, and shift the LM to the left.
D) buy foreign currency, sell domestic currency, and shift the IS to the right.

Question

Figure 13.2 
-Refer to Figure 13.2.In a fixed exchange rate regime,if an economy is experiencing external disequilibrium at point B,then to peg the exchange rate the central bank has to:
A) buy domestic currency, sell foreign currency, and shift the IS to the left. 
B) buy foreign currency, sell domestic currency, and shift the LM to the right. 
C) buy domestic currency, sell foreign currency, and shift the LM to the left. 
D) buy foreign currency, sell domestic currency, and shift the IS to the right.

Quizplus · Accepted Answer

In a fixed exchange rate regime, if an economy is experiencing external disequilibrium at point B, it means that the demand for foreign currency is greater than the supply of foreign currency. To peg the exchange rate, the central bank has to buy domestic currency and sell foreign currency. This will increase the supply of foreign currency in the market and reduce the demand for foreign currency, which will shift the LM to the left to reduce the real GDP and restore internal balance.

Figure 13.2 -Refer to Figure 13.2.In a Fixed Exchange Rate Regime,if an Rate