anshultongia

An unanticipated shift to an expansionary monetary policy will NOT lead to:

A) more rapid economic growth, an accelerated inflation rate, and lower real interest rates.

B) more expensive domestic products, which reduces exports.

C) an appreciating domestic currency.

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An unanticipated expansionary monetary policy will not lead to an appreciating domestic currency. Higher inflation will increase prices of domestic products and make them unattractive to foreigners. As a result, foreigners will reduce their demand for domestic products and will not demand the domestic currency as much as before. Coupled with declining foreign investment, which will also lead to reduced demand for the domestic currency, the domestic currency value will fall relative to other currencies.

anshultongia

An unexpected increase in the growth rate of the money supply would:

A) cause real interest rates to rise, causing an appreciation of the country's currency.

B) have no effect on exchange rates in the short run.

C) cause real interest rates to fall, causing a depreciation of the country's currency.

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Unanticipated shifts to an expansionary monetary policy would lead to a more rapid economic growth, an unexpected increase in inflation, and lower real interest rates. The more rapid economic growth would lead to an increase in demand for imports. The higher rate of inflation makes domestic goods more expensive, reducing exports. Lower real interest rates reduce investment by foreigners. These factors increase the demand for foreign currencies and reduce the demand for the country's domestic currency, causing it to depreciate.

anshultongia

An unanticipated shift to a federal government surplus would cause the financial account to move to:

A) surplus and the current account to move to deficit.

B) deficit and the current account to move to surplus.

C) deficit and the current account to move to deficit.

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An unexpected shift to a larger budget surplus would cause a decrease in aggregate demand and a reduction in domestic interest rates. This reduced demand discourages imports, which moves the current account toward surplus. The real lower interest rates will encourage investment in the foreign country and discourage foreign investors form investing in the domestic currency. The financial account will move toward deficit.

anshultongia

David Hendricks, an economist with Economic Weekly (a major magazine publication in South Africa), was discussing monetary policy, foreign exchange, and fiscal policy at a forum in Durban. During the forum he made the following two statements:

Statement 1: If the South African government pursues an expansionary monetary policy that is unanticipated, the likely effects include a decrease in its financial account component of the balance of payments and lead to a decrease in the foreign exchange value of the South African rand (ZAR).
Statement 2: If the South African government pursues a restrictive fiscal policy, this will tend to move the current account towards surplus and the financial account towards a deficit.

Are the statements made by Hendricks regarding monetary policy, foreign exchange, and fiscal policy CORRECT?With respect to these statements:

A) only statement 1 is correct.

B) both are correct.

C) only statement 2 is correct.

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Both statements are correct. An unanticipated increase in the growth rate of the money supply can be expected to drive down both real interest rates and the foreign exchange value of the rand. The decrease in real interest rates will make foreign investment relatively more attractive, leading to a decrease in the financial account (move it toward deficit). A more restrictive fiscal policy will likely decrease economic growth and real interest rates, leading to less import demand (current account moves toward surplus) and greater demand for investment outside the country (financial account moves toward deficit).

anshultongia

An exchange rate system that involves a country's commitment to use fiscal and monetary policy to maintain the country's exchange rate within a narrow band is a:

A) floating exchange rate system

B) fixed rate, unified currency system.

C) pegged exchange rate system.

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An exchange rate system that involves a country's commitment to use fiscal and monetary policy to maintain the country’s exchange rate within a narrow band is a pegged exchange rate system.

anshultongia

In a pegged exchange rate system the:

A) currency is backed by actual holdings of another currency, such as the U.S. dollar.

B) exchange rate is fixed by governmental fiat and not allowed to float freely.

C) monetary authority maintains the exchange rate within a narrow band relative to other currencies.

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This type of system requires a country to use its monetary policy to maintain the desired exchange rate within a narrow range relative to other currencies.

anshultongia

A country that uses a fixed exchange rate system is least likely to:

A) run a current account surplus in consecutive years.

B) employ discretionary fiscal policy.

C) use discretionary monetary policy to keep the exchange rate within a narrow band around the target rate.

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Under a fixed exchange rate system, the country gives up discretion about monetary policy and creates domestic currency only up to its holdings of the foreign currency into which it promises to convert the domestic currency. A pegged exchange rate system uses monetary policy to keep the currency’s foreign exchange value within a band relative to a target. A country with a fixed exchange rate remains free to use discretionary fiscal policy. The state of its current and capital accounts will depend on its trade and investment flows.

anshultongia

The benefit of a crawling-peg policy for exchange rates relative to a fixed-rate policy is reduction of risk:

A) in the currency markets.

B) of the government running out of foreign currency.

C) that changes in the inflation rate will cause exchange rates to fluctuate.

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Both fixed-rate and crawling-peg policies are designed to reduce risk in the currency markets. However, when the government periodically resets the rate under a crawling-peg policy, it reduces the risk that it will have too little or too much foreign currency in reserves.

anshultongia

Which of the following statements regarding relative Purchasing Power Parity (PPP) is least accurate?

A) It claims that the exchange rate movements should exactly offset any inflation differential between two countries.

B) In order for relative PPP to hold, countries with higher rates of expected inflation should see their currencies appreciate.

C) Because PPP holds in the long run, it is somewhat useful in exchange-rate determination in the short run.

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In order for relative PPP to hold, countries with higher rates of expected inflation should see their currencies depreciate.

anshultongia

Which of the following statements regarding relative purchasing power parity (PPP) is least accurate?

A) To keep the relative cost of goods and services the same across borders, countries with higher rates of expected inflation should see their currencies depreciate.

B) Short-term inflation differentials are insignificant in regard to exchange rates; only the long-run differentials are important to relative PPP.

C) If relative PPP holds, overvalued currencies will depreciate over time, while undervalued currencies will appreciate.

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According to relative PPP, exchange rates will adjust to inflation differentials. However, empirical evidence indicates that relative PPP tends to hold over the longer term, but not over the short term