Question 1

When there is a banking crisis under a peg, the monetary authority may be tempted to bail out the banks. Why is this risky?

Accepted Answer

A)  Banks are the least important entity in the financial sector, and attention should be paid to manufacturing, which is more important. 
B)  Banks are critical to the success of the economy, and when they are in bad shape, it is best to allow the weaker banks to fail and support the stronger ones. 
C)  The central bank would have to sell reserves to maintain the peg, and they could fall to an unsafe level. 
D)  The monetary authority would be forced to buy reserves in exchange for domestic currency-so there would be plenty of money in circulation. 
A)  Banks are the least important entity in the financial sector, and attention should be paid to manufacturing, which is more important. 
B)  Banks are critical to the success of the economy, and when they are in bad shape, it is best to allow the weaker banks to fail and support the stronger ones. 
C)  The central bank would have to sell reserves to maintain the peg, and they could fall to an unsafe level. 
D)  The monetary authority would be forced to buy reserves in exchange for domestic currency-so there would be plenty of money in circulation.

Question 2

Low-income nations may be considering the cost of holding excess reserves as an insurance premium against a future currency crisis. Economists have commented that holding:

Accepted Answer

A)  excess reserves is necessary and prudent. 
B)  reserves is unnecessary because the economy can always switch to floating rates. 
C)  excess reserves to such an extent is much too costly for poor countries. 
D)  excess reserves makes little difference when looking at the entire economy. 
A)  excess reserves is necessary and prudent. 
B)  reserves is unnecessary because the economy can always switch to floating rates. 
C)  excess reserves to such an extent is much too costly for poor countries. 
D)  excess reserves makes little difference when looking at the entire economy.

Question 3

A drawback to using changes in domestic credit to adjust the domestic money supply to maintain a peg:

Accepted Answer

A)  is problems in emerging market economies as a result of bond market instability. 
B)  is the lack of expertise in financial matters in the central banks of emerging markets. 
C)  is the requirement that currencies flip flop from fixed to floating. 
D)  is that nations are ignoring a potentially more effective source of currency adjustment. 
A)  is problems in emerging market economies as a result of bond market instability. 
B)  is the lack of expertise in financial matters in the central banks of emerging markets. 
C)  is the requirement that currencies flip flop from fixed to floating. 
D)  is that nations are ignoring a potentially more effective source of currency adjustment.

Question 4

Assume the money supply is backed by bonds and reserves, and the exchange rate is pegged. If the domestic demand for money falls, what happens to the level of bonds and reserves?

Accepted Answer

A)  The level of bonds and reserves both rise. 
B)  The level of bonds stays the same, while the level of reserves falls. 
C)  The level of bonds rises, while the level of reserves falls. 
D)  The level of bonds falls and the level of reserves rises. 
A)  The level of bonds and reserves both rise. 
B)  The level of bonds stays the same, while the level of reserves falls. 
C)  The level of bonds rises, while the level of reserves falls. 
D)  The level of bonds falls and the level of reserves rises.

Question 5

Which method would the central bank NOT use to keep the exchange value of its currency fixed?

Accepted Answer

A)  It would purchase its own currency for foreign reserves when the domestic credit expanded. 
B)  It would ensure that the domestic money supply remained constant. 
C)  It would sell its own currency for foreign reserves when domestic credit contracted. 
D)  It would ensure that the domestic money supply increased to maintain uncovered interest and PPP. 
A)  It would purchase its own currency for foreign reserves when the domestic credit expanded. 
B)  It would ensure that the domestic money supply remained constant. 
C)  It would sell its own currency for foreign reserves when domestic credit contracted. 
D)  It would ensure that the domestic money supply increased to maintain uncovered interest and PPP.

Question 6

What must a nation's central bank do to maintain a fixed exchange rate?

Accepted Answer

A)  achieve a balanced budget 
B)  keep the level of foreign reserves above zero so that it can prevent a fall in value of its currency 
C)  keep the level of foreign reserves at zero 
D)  hold only foreign government bonds to back the currency 100% 
A)  achieve a balanced budget 
B)  keep the level of foreign reserves above zero so that it can prevent a fall in value of its currency 
C)  keep the level of foreign reserves at zero 
D)  hold only foreign government bonds to back the currency 100%

Question 7

As evident from EU nations pegging to the German mark (before currency union) and nations pegging to the U.S. dollar:

Accepted Answer

A)  the mark was overvalued, while the dollar was undervalued. 
B)  when currency crises occur, they are more severe in emerging markets, yet they can affect both developing and emerging market economies. 
C)  nations pegging their currencies to the mark had lower rates of interest, yet domestic credit volume was lower in nations pegging to the dollar. 
D)  currency crises are very uncommon, yet when they occur, the media often makes too much of the issue in their reports. 
A)  the mark was overvalued, while the dollar was undervalued. 
B)  when currency crises occur, they are more severe in emerging markets, yet they can affect both developing and emerging market economies. 
C)  nations pegging their currencies to the mark had lower rates of interest, yet domestic credit volume was lower in nations pegging to the dollar. 
D)  currency crises are very uncommon, yet when they occur, the media often makes too much of the issue in their reports.

Question 8

Emerging markets and developing economies may have to raise domestic rates of interest suddenly if:

Accepted Answer

A)  the supply of money unexpectedly drops. 
B)  the IMF calls in loans with no warning. 
C)  the risk premium for its currency rises dramatically. 
D)  domestic investors wish to repatriate their profits earned overseas. 
A)  the supply of money unexpectedly drops. 
B)  the IMF calls in loans with no warning. 
C)  the risk premium for its currency rises dramatically. 
D)  domestic investors wish to repatriate their profits earned overseas.

Question 9

A nation experiencing financial difficulties often has simultaneous crises. Which of the following is NOT typically concurrent for such nations?

Accepted Answer

A)  a banking crisis 
B)  a default crisis 
C)  an exchange rate crisis 
D)  a climate crisis 
A)  a banking crisis 
B)  a default crisis 
C)  an exchange rate crisis 
D)  a climate crisis

Question 10

An exchange rate crisis is defined as:

Accepted Answer

A)  a depreciation of 5% to 10% in a developing economy. 
B)  a depreciation of 10% to 15% in an advanced country. 
C)  a depreciation of 20% to 25% in an emerging economy. 
D)  a depreciation of 10% to 15% in an advanced country and a depreciation of 20% to 25% in an emerging economy. 
A)  a depreciation of 5% to 10% in a developing economy. 
B)  a depreciation of 10% to 15% in an advanced country. 
C)  a depreciation of 20% to 25% in an emerging economy. 
D)  a depreciation of 10% to 15% in an advanced country and a depreciation of 20% to 25% in an emerging economy.

Question 11

The risk premium is the difference between foreign and domestic rates of interest under parity. This premium has three distinct parts. Which of the following is NOT a factor in the risk premium?

Accepted Answer

A)  the currency premium 
B)  the country premium 
C)  the default risk premium 
D)  the floating risk premium 
A)  the currency premium 
B)  the country premium 
C)  the default risk premium 
D)  the floating risk premium

Question 12

The hypothesis that intermediate regimes or a lack of full commitment to a peg will eventually destroy it results in nations choosing the extremes of peg or float. This hypothesis is known as:

Accepted Answer

A)  the trilemma of floating. 
B)  the corners hypothesis. 
C)  the soft peg dilemma. 
D)  the temporary contradiction. 
A)  the trilemma of floating. 
B)  the corners hypothesis. 
C)  the soft peg dilemma. 
D)  the temporary contradiction.

Question 13

The behavior of prices and exchange rates at the time of the crisis will:

Accepted Answer

A)  increase in a predictable, smooth manner. 
B)  exhibit erratic jumps upward. 
C)  show an underlying stability. 
D)  decrease at first before finding a new equilibrium. 
A)  increase in a predictable, smooth manner. 
B)  exhibit erratic jumps upward. 
C)  show an underlying stability. 
D)  decrease at first before finding a new equilibrium.

Question 14

The name for borrowing by the central bank to fund the purchase of foreign currency reserves:

Accepted Answer

A)  is sterilization bonds. 
B)  is official government debt. 
C)  is foreign debt liabilities. 
D)  is municipal bonds. 
A)  is sterilization bonds. 
B)  is official government debt. 
C)  is foreign debt liabilities. 
D)  is municipal bonds.

Question 15

Which of the following is correct?

Accepted Answer

A)  The likelihood of an exchange rate crisis increases if a country is having a banking crisis. 
B)  The likelihood of an exchange rate crisis decreases if a country is having a banking and default crisis. 
C)  There is no relationship between an exchange rate crisis and banking or default crises. 
D)  When a banking or default crisis occurs, countries typically are forced to appreciate their currencies. 
A)  The likelihood of an exchange rate crisis increases if a country is having a banking crisis. 
B)  The likelihood of an exchange rate crisis decreases if a country is having a banking and default crisis. 
C)  There is no relationship between an exchange rate crisis and banking or default crises. 
D)  When a banking or default crisis occurs, countries typically are forced to appreciate their currencies.

Question 16

In general, whenever the costs of pegging outweigh the benefits of a non-credible peg, the government will always:

Accepted Answer

A)  depreciate. 
B)  peg. 
C)  make temporary fixed rates permanent. 
D)  sell more government bonds. 
A)  depreciate. 
B)  peg. 
C)  make temporary fixed rates permanent. 
D)  sell more government bonds.

Question 17

Although the argument is weak, sterilization under a pegged system could benefit the economy by:

Accepted Answer

A)  replacing outstanding debt (denominated in the domestic currency) with currency, thus reducing privately held debt. 
B)  reducing interest rates and stimulating the economy. 
C)  holding down the level of government borrowing. 
D)  providing funds for worker training and technology upgrades. 
A)  replacing outstanding debt (denominated in the domestic currency) with currency, thus reducing privately held debt. 
B)  reducing interest rates and stimulating the economy. 
C)  holding down the level of government borrowing. 
D)  providing funds for worker training and technology upgrades.

Question 18

Consider an economy with a fixed exchange rate and money supply equal to 2 billion pesos. The country has 1 billion in reserves and 1 billion in domestic credit. If there is a sudden decline in the demand for money, then:

Accepted Answer

A)  the country needs to reduce its reserves to maintain the exchange rate. 
B)  the country needs to increase its reserves to maintain the exchange rate. 
C)  the country will face rising interest rates and, thus, a sharp appreciation of the peso. 
D)  the country will see a sharp increase in the demand for loans. 
A)  the country needs to reduce its reserves to maintain the exchange rate. 
B)  the country needs to increase its reserves to maintain the exchange rate. 
C)  the country will face rising interest rates and, thus, a sharp appreciation of the peso. 
D)  the country will see a sharp increase in the demand for loans.

Question 19

Which of the following methods would the central bank NOT use to keep the exchange value of its currency fixed?

Accepted Answer

A)  It would purchase its own currency for foreign reserves when the domestic credit expanded. 
B)  It would sell its own currency for foreign reserves when domestic credit contracted. 
C)  It would ensure that the domestic money supply stayed constant to maintain uncovered interest and PPP. 
D)  It would ensure that the domestic money supply increased to maintain PPP. 
A)  It would purchase its own currency for foreign reserves when the domestic credit expanded. 
B)  It would sell its own currency for foreign reserves when domestic credit contracted. 
C)  It would ensure that the domestic money supply stayed constant to maintain uncovered interest and PPP. 
D)  It would ensure that the domestic money supply increased to maintain PPP.

Question 20

What are the similarities and differences between the impact of a currency crisis on an advanced country and the impact on emerging country?

Accepted Answer

A currency crisis can have both similari

Exam 20: Exchange Rate Crises: How Pegs Work and How They Break

When there is a banking crisis under a peg, the monetary authority may be tempted to bail out the banks. Why is this risky?

Low-income nations may be considering the cost of holding excess reserves as an insurance premium against a future currency crisis. Economists have commented that holding:

A drawback to using changes in domestic credit to adjust the domestic money supply to maintain a peg:

Assume the money supply is backed by bonds and reserves, and the exchange rate is pegged. If the domestic demand for money falls, what happens to the level of bonds and reserves?

Which method would the central bank NOT use to keep the exchange value of its currency fixed?

What must a nation's central bank do to maintain a fixed exchange rate?

As evident from EU nations pegging to the German mark (before currency union) and nations pegging to the U.S. dollar:

Emerging markets and developing economies may have to raise domestic rates of interest suddenly if:

A nation experiencing financial difficulties often has simultaneous crises. Which of the following is NOT typically concurrent for such nations?

An exchange rate crisis is defined as:

The risk premium is the difference between foreign and domestic rates of interest under parity. This premium has three distinct parts. Which of the following is NOT a factor in the risk premium?

The hypothesis that intermediate regimes or a lack of full commitment to a peg will eventually destroy it results in nations choosing the extremes of peg or float. This hypothesis is known as:

The behavior of prices and exchange rates at the time of the crisis will:

The name for borrowing by the central bank to fund the purchase of foreign currency reserves:

Which of the following is correct?

In general, whenever the costs of pegging outweigh the benefits of a non-credible peg, the government will always:

Although the argument is weak, sterilization under a pegged system could benefit the economy by:

Consider an economy with a fixed exchange rate and money supply equal to 2 billion pesos. The country has 1 billion in reserves and 1 billion in domestic credit. If there is a sudden decline in the demand for money, then:

Which of the following methods would the central bank NOT use to keep the exchange value of its currency fixed?

What are the similarities and differences between the impact of a currency crisis on an advanced country and the impact on emerging country?

Trade in the Global Economy

Trade and Technology: The Ricardian Model

Gains and Losses From Trade in the Specific-Factors Model

Trade and Resources: the Heckscher-Ohlin Model

Movement of Labor and Capital Between Countries

Increasing Returns to Scale and Monopolistic Competition

Offshoring of Goods and Services

Import Tariffs and Quotas Under Perfect Competition

Import Tariffs and Quotas Under Imperfect Competition

Export Subsidies in Agriculture and High-Technology Industries

International Agreements: Trade, Labor, and the Environment

The Global Macroeconomy

Introduction to Exchange Rates and the Foreign Exchange Market

Exchange Rates I: the Monetary Approach in the Long Run

Exchange Rates II: the Asset Approach in the Short Run

National and International Accounts: Income, Wealth, and the Balance of Payments

Balance of Payments I: the Gains From Financial Globalization

Balance of Payments II: Output, Exchange Rates, and Macroeconomic Policies in the Short Run

Fixed Versus Floating: International Monetary Experience

The Euro

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