International Economics, 7e (Gerber)
Chapter 12 International Financial Crises
12.1 Introduction: The Challenge of Financial Integration
1) There are no questions for this section.
Topic: Introduction: The Challenge to Financial Integration
12.2 Definition of a Financial Crisis
1) An exchange rate crisis is caused by
A) a sudden and an unexpected collapse in the value of a nation’s currency.
B) the inability of the IMF to predict the immediate collapse of the currency of a country.
C) the adoption of a flexible exchange rate system by a country or group of countries.
D) the adoption of a fixed exchange rate system by a country or group of countries.
2) All of the following are possible outcomes of a banking crisis EXCEPT
A) depositors, but not banks, may lose all or a portion of their assets.
B) a recession due to decreases in consumption by households.
C) decreases in investment.
D) a contagion effect of the crisis from vulnerable banks to financial institutions on sound basis.
3) A fixed exchange rate system crisis may be accompanied or followed by
A) unexpected gains of international reserves.
B) revaluation of a currency.
C) devaluation of a currency.
D) deflationary pressures within the country.
4) A flexible exchange rate system crisis involves
A) a revaluation of the currency.
B) a rapid and uncontrolled depreciation of the currency.
C) a decrease in the dollar value of the country’s international debt.
D) a sure political collapse of the ruling government.
5) All of the following are possible outcomes of a financial crisis EXCEPT
A) bank failings and disintermediation.
B) a recession.
C) an increase in domestic consumption.
D) depreciation or devaluation of a currency.
6) Which of the following is NOT likely to occur when a bank fails?
A) Everyone that deposits money in the bank loses all or a portion of their money, unless the
country has a functioning deposit insurance system.
B) The loss of savings (or the feared loss of savings) causes households to cut back on
consumption, which spreads the recessionary effect wider through the country.
C) Unaffected banks may stop making loans as they take a cautious approach, slowing or
stopping new investment.
D) Other banks make too many loans to make up for the loans not made by the failed bank,
kicking off a cycle of stimulation and inflation.
7) When expansionary fiscal and monetary policies are joined with a ________ exchange rate
system, the various components of economic policy often interact in ways that lead to a crisis
followed by a steep recession.
A) fixed
B) floating
C) crawling peg
D) flexible
8) Which of the following does not occur in resolving a debt crisis?
A) Debts are restructured
B) Repayment periods are shortened
C) Interest rates are reduced
D) Some partial debt forgiveness
9) A flexible exchange rate system guarantees a country will not experience an exchange rate
crisis.
10) Current research suggests that countries that adopt a pegged exchange rate may be more
vulnerable to an exchange rate crisis.
11) Exchange rate crises are only associated with fixed exchange rate systems.
12) Disintermediation is a problem associated with a banking crisis.
13) Exchange rates and banking systems are often the variables through which the contagion
effects of a crisis are spread from one country to another.
14) Unlike a banking crisis, an exchange rate crisis rarely results in a deep recession.
15) An exchange rate crisis may lead to a banking crisis and disintermediation.
16) The most common type of macroeconomic imbalance is overly expansionary fiscal policies
that create large government budget deficits, often financed by a high growth rate of the money
supply.
17) Many developing countries make the government budget one of the primary tools of long-
run industrial development, with the government owning and operating industries such as steel
mills, airlines, and phone companies.
18) Tax systems in developing countries tend to be efficient and reliable.
19) Deficits financed by borrowed money lead to inflation, and in a fixed or crawling peg
exchange rate system, this leads to the real exchange rate being undervalued.
20) Small devaluations are usually sufficient to stem capital flight.
21) A large and growing current account deficit can be an indicator of a potential crisis.
22) It is normal and typical in a debt crisis for debtors to completely repudiate all their debts.
23) A debt crisis may lead to a banking crisis.
24) If the banking sector borrows internationally and lends locally, how does this intensify a
financial crisis?
1) Which of the following is NOT a characteristic of a financial crisis caused by macroeconomic
imbalances?
A) Crises can be unpredictable.
B) Crises can be predictable.
C) Crises can by expansionary fiscal policies accompanied by high budget deficits.
D) Crises can be caused by budget surpluses.
2) All of the following are symptoms of definite and identifiable macroeconomic imbalances
EXCEPT
A) large budget deficits.
B) an overvalued currency.
C) a current account deficit.
D) the discovery of emerging markets by financial investors who want to diversify their
portfolios.
3) An austerity policy is
A) an increase in the money supply.
B) an expenditure reduction and expenditure switching policy.
C) an expansionary fiscal policy accompanied by decreases in taxes, increases in expenditures,
or both.
D) an exchange rate switching policy from a fixed to a flexible exchange rate system.
4) Which of the following was NOT a cause or a characteristic of the 1994/95 Mexican peso
crisis?
A) An overvalued exchange rate
B) An inflow of large foreign portfolio capital
C) The inability of the IMF, the world bank, and the NAFTA member countries (i.e., the United
States and Canada) to predict the looming financial crisis
D) Shifts by the world capital markets toward more conservative and risk-averse investments
because of interest and exchange rate movements around the world
5) The Mexican peso crisis of 1994 and 1995 was directly related to
A) a large capital account surplus.
B) a large capital account deficit.
C) an undervalued peso.
D) a large current account surplus.
6) A financial crisis brought on by volatile capital flows
A) is usually inevitable given underlying conditions.
B) does not happen to countries with strong international positions.
C) is often preceded by capital inflows and an increase in foreign liabilities.
D) is usually the result of high budget deficits.
7) Sovereign default refers to
A) default due to excessive money supply growth.
B) default on private debt instruments.
C) default on government debt instruments.
D) bankruptcy of firms, resulting in equity losses.
8) A financial crisis brought on by macroeconomic imbalances
A) is usually inevitable given underlying conditions.
B) often happens to countries with strong international positions.
C) is often preceded by capital inflows and an increase in foreign liabilities.
D) is usually the result of fragility in the banking sector.
9) Consider the following two statements.
I. The East Asian financial crisis was an example of macroeconomic imbalances.
II. The Latin American debt crisis was an example of macroeconomic imbalances.
A) Both statements are true.
B) I is true, and II is false.
C) I is false and II is true.
D) Both statements are false.
10) Which of the following is a true statement about crises caused by volatile capital flows?
A) Volatile capital flows rarely cause contagion effects.
B) Technological advances have increased the volatility of capital flows.
C) Exchange rates appreciate when there are capital outflows.
D) Budget deficits decrease when there are capital outflows.
11) It should be possible to avoid intensifying crises when there are weak financial sectors if
A) banks pay closer attention to the maturity match between their debts and assets.
B) governments do not run budget deficits.
C) current account deficits are moderate.
D) banks do not lend to unworthy creditors.
12) The 2007 subprime crisis spread easily because
A) the United States is an important economy.
B) banks in other countries had purchased assets that depended on the U.S. housing market.
C) there was speculation against the U.S. dollar.
D) the Fed failed to act at the right time.
13) Although financial crises can be unpredictable, they are usually preceded by identifiable
vulnerabilities.
14) Financial crises due to weak financial sectors can often be avoided if international lenders
respond appropriately.
15) Describe the Mexican peso crisis in terms of the imbalances that caused it, the policies
Mexico used to respond, and the lessons learned.
16) Carefully explain two reasons why domestic crises can become international crises.
17) How does a weak financial sector intensify the problems created by volatile capital flows?
18) Explain how the global financial crisis of 2007-2009 was the result of macroeconomic
imbalances.
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12.4 Domestic Issues in Crisis Avoidance
1) Which of the following may NOT help avoid a financial crisis?
A) Maintaining credible and sustainable fiscal policies
B) Regulation and supervision of the financial system
C) Immediately bailing out financial intermediaries and standing ready to bail out others in case
a financial crisis occurs
D) Maintaining credible and sustainable monetary policies
2) All of the following involve a moral hazard problem EXCEPT
A) an individual driving carelessly after buying a comprehensive insurance policy for a Ford
Pinto.
B) the IMF bailing Mexico out of a financial crisis, with promises to do the same for other
nations that might face financial problems.
C) the requirement of banking institutions that owners invest a substantial portion of their own
capital in their bank.
D) membership in FDIC (Federal Deposit Insurance Corporation) by your local bank.
3) All of the following statements are true about the real exchange rate, = , EXCEPT
A) a greater change in P (domestic price) compared to a change in P* (foreign price) necessitates
a rise in the nominal rate, Rn, to keep the real rate unchanged.
B) a pegged exchange rate system requires tight control of the money supply.
C) there is a one-to-one correspondence between the real and nominal exchange rates.
D) an expansionary monetary policy raises the real exchange rate.
4) Which of the following was NOT one of the causes of the Asian financial crises of 1997 and
1998?
A) A current account deficit and financial account surpluses
B) The use of exports as an engine of economic growth by the countries involved
C) China’s 1994 devaluation of its fixed exchange rate
D) The appreciation of the U.S. dollar and depreciation of the Japanese yen
5) The main policy advice given by the IMF to East Asian countries facing the financial crises of
1997/1998 was
A) raising their domestic interest rates to stabilize the collapsing currencies.
B) using their monetary and fiscal policies alone.
C) use capital controls.
D) adopting a flexible exchange rate system.
6) Which one of the following countries refused to accept the IMF conditions during the East
Asian financial crisis?
A) South Korea
B) Malaysia
C) Thailand
D) Singapore