Deck 21: Currency Crises and Exchange Rate Systems

Question 1

When a country experiences a currency crisis,the IMF

A) provides loans and grants to the government to purchase and distribute food and other necessities
B) purchases the country's currency, to signal international confidence in the currency
C) lends foreign reserves to the country's central bank
D) makes loans to public and private institutions within the country on a long term basis with relatively few restrictions
E) lends funds to neighboring countries, which can then purchase exports from the country experiencing the crisis

Answer 1

lends foreign reserves to the country's central bank

Question 2

Which of the following does not describe the Asian economies involved in the 1997 currency crisis?

A) banks had borrowed foreign currency and lent in domestic currency, exposing themselves to exchange rate risk
B) banks had borrowed on a short term basis and lent on a long term basis
C) over-accumulation of physical capital
D) high and rapidly rising trade barriers within Asia
E) high rates of domestic saving

Answer 2

high and rapidly rising trade barriers within Asia

Question 3

Sterilized foreign exchange intervention is defined as

A) Intervention that is offset by open market operations that leave the monetary base unchanged
B) Intervention that is ineffective
C) Intervention that leaves the stock of domestic assets held by the Central Bank unchanged
D) Local currency buying intervention
E) Foreign currency buying intervention

Answer 3

Intervention that is offset by open market operations that leave the monetary base unchanged

Question 4

Which of the following is true of currency crises?

A) They have become less frequent since 1978
B) They are often caused by slow, steady, capital inflows
C) They generally affect nominal exchange rates but not real exchange rates
D) They generally reduce national income
E) By making exports inexpensive and imports costly, they stimulate GDP

Question 5

Emerging markets undertake capital account liberalization to encourage

A) short term inflows
B) long term inflows
C) short term outflows
D) long term outflows
E) all of the above

Question 6

A resource-based Sovereign Wealth Funds can benefit a nation by

A) Converting a temporary resource windfall into a longer term income stream
B) Mitigating the 'Dutch disease'
C) Investing the proceeds of persistent FX buying by the Central Bank
D) Both a) and b)
E) Stabilizing the price of the natural resource

Question 7

The next questions refer to the following.
Suppose the yen-pound exchange rate is currently £1 = ¥300. A Japanese bank borrows £2 million from UK lenders for 1 year at 6% interest, and lends ¥600 million to Japanese borrowers for 1 year at 8% interest.
This strategy will fail to yield the bank a profit if

A) the UK inflation rate exceeds 2% during the year
B) Japan experiences deflation of 2% or more
C) the pound appreciates by 2%
D) the yen appreciates by 2% or more
E) short term interest rates in the UK rise above 8%

Question 8

Advocates of capital account liberalization emphasize each of the following except the idea that capital flows

A) enable poor countries to borrow for investment
B) smooth consumption in the face of idiosyncratic risk
C) impose discipline on policy makers
D) increase the depth and sophistication of financial markets
E) lead to factor price equalization across countries

Question 9

Dollarization occurs when

A) the Federal Reserve finances a federal budget deficit by buying newly issued Treasury bonds in order to prevent interest rates from rising
B) a country adopts the US dollar as its legal tender
C) foreign currency boards target the US dollar
D) US importers reprice items in dollar terms
E) The IMF or a central bank sells reserves of US dollars on the world market to alter exchange rates

Question 10

Which of the following is not a central feature in first generation models of currency crises?

A) budget deficits
B) reduction of the money supply
C) high inflation
D) depletion of a country's foreign exchange reserves
E) capital outflows

Question 11

The central feature of second-generation currency crisis models is

A) large budget deficits
B) tight monetary policy
C) information lags
D) covered interest parity
E) self-fulfilling prophecies

Question 12

A Sovereign Wealth Fund is generally defined as

A) A fund that invests in Sovereign Debt
B) Central Bank holdings of foreign exchange
C) A State-Run Fund that generally invest overseas in risky and/or illiquid assets
D) A State-Run Fund that invests only in domestic assets
E) A fund that invests the wealth of a King or Queen

Question 13

In first-generation models of currency crises,speculators

A) play no significant role; only the government is to blame
B) initiate the crisis, to which the government must then respond
C) exacerbate the crisis when foreign reserves are depleted to a critical level
D) misinterpret market signals regarding a currency's long run value
E) help to stabilize the currency and prevent the financial system from collapsing

Question 14

The Bretton Woods system

A) created flexible exchange rates following World War II
B) was the predecessor to the North American Free Trade Agreement (NAFTA)
C) replaced the European Exchange Rate Mechanism (ERM)
D) tied the dollar to gold and other currencies to the dollar
E) is the clearinghouse process by which nations buy and sell reserves of foreign currency

Question 15

Which of the following is not a potential problem for emerging economies which liberalize their capital accounts to allow funds to flow in from developed countries?

A) Asymmetric information can cause funds to be directed into unprofitable sectors
B) A sudden withdrawal of foreign funds could create a recession
C) A weak banking sector can generate excessive risk taking as funds flow in
D) The inflows may be volatile and thus unpredictable
E) Investment could exceed the level of domestic saving

Question 16

The Guidotti-Greenspan rule suggests that foreign exchange reserves a sufficient when they

A) Cover 3 months of imports
B) are equal to 20% of GDP
C) are equal to the value of foreign currency debt
D) are equal to 20% of M2
E) are equal to short term debt of one year maturity or less

Question 17

Which of the following has not been raised as a criticism of IMF lending?

A) It creates moral hazard among investors by protecting them from losses
B) The conditions imposed on recipient governments often go unfulfilled
C) The default rates are quite high
D) Recipient countries recover somewhat more slowly than non-recipients
E) The loans have become so large that the IMF may need to increase its own capital reserves

Question 18

First generation models of currency crises can most reliably explain

A) the dollar crisis of the 1960s
B) Latin American currency crises in the 1970s and 1980s
C) the 1992 crisis in the European Exchange Rate Mechanism (ERM)
D) the Asian crisis of the 1990s
E) none of the above

Question 19

The next questions refer to the following.
Suppose the yen-pound exchange rate is currently £1 = ¥300. A Japanese bank borrows £2 million from UK lenders for 1 year at 6% interest, and lends ¥600 million to Japanese borrowers for 1 year at 8% interest.
The bank's expected net gain is

A) ¥40,000
B) ¥48,000
C) ¥360,000
D) ¥12,000,000
E) ¥24,000,000

Question 20

The use of a crawling peg refers to

A) sequentially targeting different currencies as exchange rate pegs
B) repeated devaluations despite an ostensibly fixed exchange rate
C) an annual inflation target of 2%, which allows the price level to creep upward at a deliberate pace
D) an exchange rate band which moves over time according to a planned schedule
E) the gradually widening gap between the interest rates of 2 countries with a fixed exchange rate, due to a rising risk premium

Question 21

One of the principal advantages of adopting a fixed exchange rate is

A) relinquishing independent monetary policy
B) that it prevents a nation from having to impose restrictions on capital flows
C) that interest rates no longer have to be restricted
D) that currency values may appreciate or depreciate nominally, but cannot fluctuate in real terms
E) that the domestic economy is insulated from events overseas

Question 22

In the long run,the least viable option for an exchange rate regime is probably

A) a single currency
B) a currency board
C) a target zone
D) dollarization
E) a pure float

Question 23

Nations adopting currency boards have tended to experience

A) improved GDP growth
B) smaller budget deficits
C) lower average inflation rates
D) smaller swings in inflation rates over time
E) all of the above

Question 24

Which of the following conditions would make fixed exchange rates relatively unattractive for a nation?

A) high levels of foreign exchange reserves
B) relatively little involvement in global capital markets
C) immobility of labor and sticky wages
D) weak central bank credibility
E) heavy reliance on trade with the country whose currency will be the peg

Question 25

Which of the following is not a criterion for an optimal currency area-that is,two or more nations benefiting from adopting a common currency?

A) labor mobility among the countries
B) a substantial level of imports and exports among the countries
C) income redistribution among the countries through transfer payments
D) common economic shocks among countries
E) approximately equal levels of national income

Question 26

A country can operate a fixed exchange rate and practice independent monetary policy if and only if

A) it eliminates all tariffs
B) it targets a zero inflation rate
C) it imposes wage and price controls
D) it restricts inflows and outflows of financial capital
E) the central bank agrees to monetarize all fiscal deficits

Question 27

Under which of the following exchange rate systems does a country,in effect,close down its central bank?

A) pure float
B) basket peg
C) truly fixed exchange rates
D) currency board
E) dollarization

Question 28

Under a currency board,a nation's central bank

A) raises or lowers interest rates to keep the exchange rate fixed
B) consults with the central banks of other nations to agree upon monetary policy
C) operates according to a strict policy rule regarding money supply growth
D) uses exchange rates as an intermediate policy target and the inter-bank lending rate as an ultimate target
E) serves as the lender of last resort for the banking system

Question 29

For which of the following countries would dollarization probably have the most potential benefits,based on the four criteria for optimal currency areas?

A) Mexico
B) Poland
C) South Africa
D) Turkey
E) Pakistan