CHAPTER 28
FIXED OR FLEXIBLE EXCHANGE RATES?
B. Multiple-Choice Questions
9. The view that inflation in a country can lead to depreciation of the country’s currency
which in turn can cause further inflation is known as
d. the exchange risk hypothesis.
10. Which one of the following is NOT an alleged disadvantage of a flexible exchange rate
system?
11. In view of the theory of optimum currency areas, a country would be a good candidate
for membership in such an area if it had a __________ degree of factor mobility with
other potential member countries of the currency area and if the country were a relatively
__________ economy.
12. The IS/LM/BP analysis suggests that an external real sector shock, such as a rise in
national income abroad will cause, under fixed exchange rates, a __________ shift in a
home country’s BP curve (assuming that short-term financial capital is not perfectly
mobile), a __________ in the home country’s balance of payments, and __________ in
the home country’s national income.
13. The optimal size of international reserves occurs for a country at the point where the
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reserves by the greatest amount.
* c. marginal benefit of holding the reserves equals the marginal cost of holding the
reserves.
d. marginal cost of holding the reserves is zero.
14. A major advantage of the system of flexible exchange rates (as opposed to fixed
exchange rates) is commonly thought to be
15. If virtually all speculators buy a currency just before what would be the cyclical low
points in the currency’s value without speculative activity, this speculation is likely to be
__________ with respect to its impact on the amplitude of the cycle; if the speculators
sell the currency just before what would otherwise be the high values of the currency
during its fluctuations, this speculation __________ in its impact on the amplitude of the
cycle..
16. A situation where a country announces a parity value for its currency and permits small
variations around that value, but also adjusts the parity regularly by small amounts
according to various indicators, is known as
17. If a country adopts a currency board arrangement, a result is that the country’s money
supply __________ be increased by the purchase of domestic assets from the country’s
citizens by the country’s central bank; in this arrangement, the country’s money supply
__________ be increased by the purchase of foreign assets from the country’s citizens by
the country’s central bank.
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d. cannot; also cannot
18. In theory, business cycles are __________ likely to be transmitted from one country to
another under a system of fixed exchange rates than under a system of flexible exchange
rates. It is also a generally-accepted theoretical result by economists that monetary policy
is __________ useful for dampening business cycle activity under a system of fixed
exchange rates than under a system of flexible exchange rates.
19. If a country’s BP curve is flatter than its LM curve, then an external financial shock of a
rise in interest rates abroad would, under flexible exchange rates, lead to __________ in
the home country’s national income. If exchange rates were fixed, this external financial
shock would __________ in the home country’s national income.
20. Other things equal, a domestic monetary or financial shock (a shift in the LM curve)
tends to produce what relative degree of GDP change for the home country under a
situation of flexible exchange rates compared to a situation of fixed exchange rates?
21. In a situation of imperfect short-term capital mobility between countries, if the BP curve
is flatter than the LM curve for country A, then an internal real sector shock in country A
(such as an autonomous increase in real investment spending) will have a __________
impact on A’s national income under fixed exchange rates than under flexible exchange
rates; if the BP curve is steeper than the LM curve for country A, then that internal real
sector shock __________ impact on A’s income under fixed exchange rates than under
flexible exchange rates.
22. In comparing the size of central bank reserves relative to world imports in the 1948-1972
period (a relatively fixed exchange rate period) with the same ratio from 1973 onward (a
relatively flexible exchange rate period), the ratio has been __________ in the more
recent period. This result __________ consistent with the theoretical expectation of
economists.
23. If a country has a currency board arrangement (with a 100 percent reserve system) in
place, then the country’s money supply can be increased by a __________ by the
country’s central bank.
24. A “crawling peg” or “crawl–like” arrangement
25. Proponents of fixed exchange rates would find the most support for their position in
which one of the following empirical results regarding the relationship between
exchange rate variations and the volume of international trade? (Assume that the
empirical tests adequately account for other factors that influence the volume of trade.)