In: Economics
When the energy prices increased create a shock in the domestic
market, will lower the rate of import. Thus the supply of energy
products in home country will fall down. There is scarcity of this
products formed in domestic market. The import becomes more
expensive with increasing nominal interest rate. So the increasing
price of energy products in international market lower the
investment and output rate in domestic country.
With flexible exchange rate the shock can be maintained. Flexible
exchange rate act as shock absorbers. It can be changed according
to the then market situation. Flexible exchange rates having the
ability to accommodate better real external shocks. The shattered
investment rate and lower rate can be maintained through this
flexible exchange rate.
(ii) Central bank’s monetary policy committee can maintain the
inflationary pressure occurred due to the shock. More financial
integration will dampen the effect due to increase in oil price.
Thus the central bank intervenes in the foreign exchange market to
reduce the negative impacts. Central bank will increase the value
of currency and attract the foreign market to retain their
international relations. Monetary authority imposes several
policies which tried to reduce the price of subsidies of oil
products. The oil prices affect the transportation, manufacturing
and heating. The oil price hike induce the cost in the whole
economy.