Exchange rates

Question 1

What are the three main types pf exchange rate?

Answer 1

Floating(flexible)
Fixed(pegged)
Monetary union

Question 2

What does a country lose under a fixed exchange rate?

Answer 2

It loses control of its interest rate and exchange rate

Question 3

What is the exchange rate trilemma?

Answer 3

A country cannot simultaneously have:
1.Free capital movement
2.Exchange rate stability
3.Monetary policy autonomy

Question 4

Under flexible exchange rates how can a country achieve depreciation?

Answer 4

By using expansionary monetary policy to lower interest rates

Question 5

What happens when markets expect a fixed exchange rate to change?

Answer 5

It can trigger a currency crisis, forcing rate hikes or devaluations.

Question 6

Why might a country with high foreign debt prefer a fixed exchange rate?

Answer 6

To avoid devaluation, which increases the domestic burden of foreign-denominated debt

Question 7

Two conditions make countries good candidates for a monetary union

Answer 7

1. similar economic shocks across members (booms and recessions at the same time)
2. high factor mobility (people and money can move easily between countries)

Question 8

In general what type of exchange rate is preferred?

Answer 8

Flexible rates are preferred.
Unless a group of countries is already tightly integrated (common currency may be right)
Or the central bank cant be trusted to follow a responsible monetary policy under flexible rates

Question 9

How do expected future interest rates affect the current exchange rate?

Answer 9

They influence investor expectations, thereby shifting the current exchange rate

Question 10

What happens to the real exchange rate under fixed nominal rates in the medium run?

Answer 10

It adjusts via changes in domestic and foreign price levels, not the nominal rate.
Making adjustments slower and more painful