Exam 23: Internal and External Balance With Fixed Exchange Rates

The figure below shows an IS-LM-FE model for an economy with fixed exchange rates. Initially the economy was at point A, a triple intersection. Here, the FE curve is flatter than the LM curve. At point B, the economy is experiencing:

Which of the following can be considered as domestic assets of a country's central bank?

"For countries with fixed exchange rates, payments deficits would be self-correcting, if only governments would stop doing their darnedest to prevent correction." Comment, and include how counterbalancing monetary policy (sterilization) can prevent self-adjustment from occurring.

A(n) _____ in a country's money supply causes international capital _____.

According to the assignment rule, which of the following policy mixes is appropriate for a country with high inflation, a balance of payments deficit, and fixed exchange rates?

Assuming no effect on exchange rates, which of the following is likely to happen if the money supply in a country contracts?

A country begins with external balance (its official settlements balance is zero). Explain the effects of a shift by the country to an expansionary monetary policy on the balance of payments of the country. (Assume that the exchange rate is fixed, but do not consider any follow-on effects from defending the fixed rate.)

Following an expansion of the money supply, a government committed to maintaining a fixed exchange rate must:

The J-curve suggests a typical pattern for a country's trade balance after an abrupt depreciation or devaluation of the country's currency. What are the key factors behind this relationship? Explain.

With fixed exchange rates, external capital flow shocks have little impact on a country's economy.

Official intervention in the foreign exchange market to defend a fixed exchange rate when the value of the country's currency is under downward pressure causes:

According to the standard IS-LM-FE model, a country with a fixed exchange rate can attain both internal and external balance by using an appropriate mix of monetary and fiscal policies, without resorting to devaluation or revaluation.

The assignment rule says that, with fixed exchange rates, fiscal policy should be used to stabilize the balance of payments and monetary policy should be used to stabilize the domestic economy.

A monetary shock to an economy with a fixed exchange rate regime will have a smaller impact on the domestic economy than will a comparable domestic spending shock.

The figure below shows an IS-LM-FE model for an economy with fixed exchange rates. Initially the economy was at point A, a triple intersection. Here, the FE curve is flatter than the LM curve. In order to maintain the fixed exchange rate, at point B monetary authorities must:

Assume that the exchange rates are fixed. When money demand is less sensitive to interest rate changes than are international capital flows, _____ policy will be _____ effective than when money demand is more sensitive to interest changes than are international capital flows.

The figure below shows an IS-LM-FE model for an economy with fixed exchange rates. Initially the economy is at point A, a triple intersection. Here, the FE curve is steeper than the LM curve. At point B, the economy is experiencing:

A(n) _____ in the money supply in a country _____ the domestic interest rates.

If a country starts with a deficit in its official settlements balance, intervention to defend a fixed exchange rate will cause: