Under fixed exchange rate, which one of the following statements is the most accurate?
A) Devaluation causes a reduction of the money supply.
B) Devaluation has no effect on the stock of money.
C) Devaluation causes an expansion of the money supply.
D) Devaluation causes a reduction in output.
E) Devaluation causes a reduction in official reserves.

Question

Quizplus · Accepted Answer

Under a fixed exchange rate, devaluation causes an expansion of the money supply. This is because when a country devalues its currency, it lowers the exchange rate relative to other currencies, making its goods relatively cheaper and more attractive to foreign buyers. This leads to an increase in exports and a decrease in imports, causing an increase in the demand for the country's currency. To meet the increased demand for its currency, the central bank must increase the supply of money by buying up more foreign currency reserves.

Under Fixed Exchange Rate, Which One of the Following Statements