Fiscal policy is more effective when the exchange rate is flexible and the economy is open.

Question

Quizplus · Accepted Answer

Fiscal policy tends to be more effective in a closed economy or when the exchange rate is fixed because the impact of government spending or taxation is less likely to be diluted through changes in net exports or exchange rates. In an open economy with a flexible exchange rate, fiscal expansion can lead to currency appreciation, which can reduce net exports and offset the fiscal stimulus.

Fiscal Policy Is More Effective When the Exchange Rate Is