Question

1 Propenents of freely fluctuating exchange rates maintain that such a system results in all of the following except:

A balance of payments equilibrium would be maintained

B reserves would not be needed

C discretionary intervention by authorities would be unnecessary

D speculation in free currency markets is destabilizing

2 Under the floating exchange rate regime,

A fiscal policy is highly effective and monetary policy is ineffective

B fiscal policy is ineffective and monetary policy is highly effective

C both are highly effective

D both are ineffective

3 Under a fixed exchange rate regime,

A fiscal policy is highly effective and monetary policy is ineffective

B fiscal policy is ineffective and monetary policy is highly effective

C both are highly effective

D both are ineffective

Answer 1

1. In a freely fluctuating exchange rate system, there is market determined rates and hence though government can intervene but is not necessary, BOP is maintained automatically and also there is no need of excess reserves.

So the answer must be D because in this system there is less probability of speculative attacks, this is because it is not profitable.

2. In floating exchange rate the exchange rate is determined by the forex by the supply and demand of the currecny. In this regime the effect of a fiscal policy is neutralized because of reduction in exports but the monetary policy has a positive impact by increasing exports and decreasing imports.

So the answer is B

3. In a fixed exchange rate regime, fiscal policy is more effective because a rise in government expenditure shifts both IS and than the LM curves right and hence there is increase in Y. But a monetary policy looses its effectiveness under this system.

So the correct answer is A.