Deck 19: Fixed Versus Floating: International Monetary Experience

Question 1

Europe's ERM, which preceded the advent of the euro, was a weighted basket of European currencies, the most important of which was:

A) the U.S. dollar.
B) the Deutsche Mark.
C) the British pound.
D) the French franc.

Answer 1

B

Question 2

The gold standard system was:

A) a floating exchange rate system.
B) a fixed exchange rate system, in which the country's currency was fixed relative to a pound of gold.
C) a fixed exchange rate system, in which the country's currency was fixed relative to an ounce of gold.
D) only used by the United States.

Answer 2

C

Question 3

The gold standard dominated exchange rate systems during what period?

A) from 1776 to 1816
B) from 1836 to 1849
C) from 1870 to 1913
D) from 1945 to 1965

Answer 3

C

Question 4

Traditionally, nations pegged their currencies to _______, and so trade was accomplished with _______ exchange rates.

A) the pound sterling; floating
B) gold; fixed
C) the U.S. dollar; floating
D) silver; fixed

Question 5

According to the text, what share of the world's countries now use floating exchange rate systems?

A) 100%
B) 70%
C) 30%
D) 15%

Question 6

At its peak in 1913, the gold standard system had been adopted by_______ of countries.

A) 85%
B) 35%
C) 13%
D) 70%

Question 7

In September 1992, Great Britain changed its exchange rate system. How?

A) It abandoned the gold standard in favor of pegging to the U.S. dollar.
B) It joined in with the new euro.
C) It switched from an exchange rate peg to floating.
D) It abandoned the sterling backing for the British pound.

Question 8

Beginning in the early 1970s, many nations abandoned their dollar standard and moved toward a system of:

A) fixed exchange rates based on gold.
B) fixed exchange rates based on the Deutsche Mark.
C) floating exchange rates.
D) real money systems in which currencies were backed by government bonds.

Question 9

What currency was the base, or center, currency in the ERM used in Europe during the 1980s and 1990s?

A) the French franc
B) the British pound
C) the German mark
D) the Italian lira

Question 10

To maintain a functioning gold standard:

A) nations are obliged to exchange any amount of issued paper money for gold.
B) paper money is not allowed; all transactions must be in coins or gold.
C) the monetary authority cannot exchange currency for gold.
D) care must be taken to keep inflation under 10%.

Question 11

The Exchange Rate Mechanism (ERM) was:

A) an attempt to bring all countries under a fixed exchange rate system.
B) a fixed exchange rate system in Europe, with the Deutsche Mark as the anchor currency.
C) a fixed exchange rate system in Europe, with the British pound as the anchor currency.
D) a fixed exchange rate system in use in the 1960s.

Question 12

Which of the following does NOT describe why Britain adopted the pegged system (the Exchange Rate Mechanism [ERM]) in 1990?

A) There were benefits to trade and other forms of cross-border exchange.
B) Britain wanted to hold onto the pound as its currency.
C) It was a member of the European Union and fixed rates were good for trade with other members.
D) It hoped to participate in the new common currency when it was launched.

Question 13

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. Now suppose that the increase in the price of oil in the second half of 2007 causes the IS curve in the United States to shift to the left. If all other things remain unchanged, what will happen to U.S. interest rates?

A) They will rise.
B) They will fall.
C) They will not change.
D) They will rise dramatically.

Question 14

Suppose that the United Kingdom pegs the pound to the euro and the European Central Bank decides to use monetary policy to offset the possible inflationary effects of European expansionary fiscal policy. Would it expand, contract, or not change the European money supply?

A) expand
B) contract
C) not change
D) The answer cannot be determined using the information provided.

Question 15

Suppose that the United Kingdom pegs the pound to the euro. If all other things remain unchanged, what would you expect to happen to European GDP if all countries who use the euro decided to adopt contractionary fiscal policies?

A) It would rise.
B) It would fall.
C) It would not change.
D) That cannot be determined using the information provided.

Question 16

Suppose that the United Kingdom pegs the pound to the euro and the European Central Bank decides to use monetary policy to offset the possible inflationary effects of European expansionary fiscal policy. How would the European Central Bank's monetary policy affect European interest rates?

A) They would rise.
B) They would fall.
C) The combination of the expansionary fiscal policy and the monetary policy would cause interest rates to return to their level prior to the expansionary fiscal policy.
D) The combination of the expansionary fiscal policy and the monetary policy would not affect interest rates.

Question 17

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. What is likely to happen to U.S. GDP following the leftward shift of its IS curve?

A) It will rise.
B) It will fall.
C) It will not change.
D) It will rise dramatically.

Question 18

Which of the following statements is correct? I. The ERM used the Deutsche Mark as the base or center currency.
II) The ERM allowed the Italian central bank autonomy over its policies.
III) The ERM allowed the Bundesbank monetary autonomy.

A) I only
B) II only
C) III only
D) I, II, and III

Question 19

After World War II, many currencies were:

A) losing value because of the war's devastation.
B) still on the gold standard.
C) suffering from high inflation.
D) pegged to the U.S. dollar.

Question 20

Suppose that the United Kingdom pegs the pound to the euro. If all other things remain unchanged, what would you expect to happen to European interest rates if all countries who use the euro decided to adopt expansionary fiscal policies?

A) They would rise.
B) They would fall.
C) They would not change.
D) That cannot be determined using the information provided.

Question 21

In the example of the peg between Britain and Germany, what would have been the case if Britain had allowed the pound to float and depreciate after Germany's GDP rise?

A) Britain would have suffered depreciation and a recession.
B) Britain would have had to raise interest rates.
C) Britain would no longer be eligible to join the new euro currency.
D) Britain could have lowered interest rates and enjoyed an added boost to GDP.

Question 22

When exchange rates are fixed and the foreign nation's interest rate increases, what happens next?

A) The home nation's IS curve shifts out because of a depreciation and an increase in the trade balance.
B) The home nation's LM curve shifts right, and its interest rate falls.
C) Fixed exchange rates force the home nation to raise its interest rates.
D) The home nation and the foreign nation are always in equilibrium, so no changes occur.

Question 23

The text compares the macroeconomic performance of Great Britain and France immediately following Great Britain's departure from the ERM in 1992. What does it conclude?

A) The rate of growth of real GDP was higher in France than in Great Britain.
B) The rate of growth of real GDP was lower in France than in Great Britain.
C) The rates of growth of real GDP were equal in France and in Great Britain.
D) GDP growth of both Great Britain and France increased dramatically after Great Britain withdrew from the ERM.

Question 24

Reunification of East and West Germany created which sequence of events? I. an increase in German rates of interest
II) a boom in German output and a shift to the right of the German IS curve
III) large reunification costs financed by increased government spending
IV) an increase in rates of interest in ERM nations

A) IV, I, III, I
B) III, II, I, IV
C) I, II, III, IV
D) IV, III, II, I

Question 25

In 1990, Britain joined the ERM. If the German Bundesbank increased interest rates, assuming Britain does not maintain its exchange rate peg:

A) the only option available to Britain would be to increase its interest rate.
B) the British pound would depreciate.
C) the British pound would appreciate.
D) the British economy would slow down.

Question 26

If the Deutsche Mark and the British pound exchange rates are fixed, and the German Bundesbank conducts a tight monetary policy to counteract an expansion in German GDP, interest rates in Germany will ____, which will force Britain to ______.

A) fall; default
B) rise; raise its rates to maintain interest parity and the fixed exchange rate
C) fall; sell gold
D) rise; lower its rates to maintain interest parity and the fixed exchange rate

Question 27

In the example of the peg between Britain and Germany, what would have been the case if Britain had adhered to the pegged exchange rate?

A) It would not have had the option of raising its own rate.
B) It would have been able to inflate its currency to keep output stable.
C) It would not have been able to inflate its currency to keep output stable.
D) It would have had to raise taxes and balance its budget.

Question 28

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. What might the U.S. Federal Reserve do to offset the macroeconomic effect of the leftward shift in the U.S. IS curve?

A) It would increase the money supply.
B) It would decrease the money supply.
C) It would not change its monetary policy.
D) It would not change its fiscal policy.

Question 29

Since Britain withdrew from the ERM in 1992, what has it done with regard to fixing its exchange rates?

A) Britain has joined with the euro, forgoing its long-standing independence.
B) Britain has put the pound back on solid footing by backing it with gold.
C) Britain has retained its independent pound currency and not joined the currency union of Europe.
D) Britain has abandoned its own monetary authority for the certainty of fixed exchange rates with its largest trading partners.

Question 30

Compared with France, who stayed in the ERM, what was the result of Britain's exit?

A) France's economy performed a bit better.
B) Britain had an economic recession while France enjoyed an expansion.
C) There was no significant difference.
D) France had an economic recession while Britain enjoyed an expansion.

Question 31

Britain's decision to exit the ERM in September 1992 had what effect?

A) Lower interest rates and a depreciated exchange rate caused the British economy to expand.
B) It subjected Britain to a ruling by the European Courts of Justice.
C) It caused the system to collapse.
D) It had no effect on Britain's economy.

Question 32

If Britain had not joined the ERM, the policy options it would have had available to avoid recession would have been:

A) severely limited.
B) more numerous and varied.
C) subject to veto by the European Parliament.
D) a conflict with its desire to maintain a stable economy.

Question 33

What was the response to Germany's expansionary fiscal policy from the German central bank, the Bundesbank?

A) It expanded the money supply to ease rates of interest.
B) It made no policy changes.
C) It contracted the money supply and raised interest rates.
D) It began the process of reverting to a gold standard.

Question 34

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. Will there be pressure for the Canadian dollar to change in value against the U.S. dollar as a result of the leftward shift of the U.S. IS curve?

A) Yes, the value will appreciate.
B) Yes, the value will depreciate.
C) No, the value will not change in value.
D) Yes, but that pressure will be offset.

Question 35

In 1990, Britain joined the ERM. If the German Bundesbank increased interest rates, what will Britain have to do in order to maintain its exchange rate peg?

A) The British would be forced to increase their interest rates.
B) The British would increase their money supply.
C) The British would have to lower their interest rates.
D) The British government would have to use expansionary fiscal policy.

Question 36

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. What will happen to the Canadian IS curve as a result of the leftward shift of the U.S. IS curve?

A) It will shift rightward.
B) It will shift leftward.
C) It will not change.
D) The IS curve will show an increase.

Question 37

Great Britain opted out of the ERM in 1992 because its government concluded that:

A) it wanted to increase its trade with North America rather than Europe.
B) the gains from being a member of the ERM outweighed the costs from higher German interest rates.
C) the costs associated with higher German interest rates outweighed the gains from being a member of the ERM.
D) it was unable to agree with the French on an exchange rate between the pound and the French franc.

Question 38

Britain's 1992 recession is probably the result of:

A) the struggle to reconcile monetary and fiscal policy.
B) the adherence to the ERM, which required Britain to raise interest rates to maintain exchange parity.
C) high unemployment rates, which are a product of the generous welfare system.
D) poor planning for the conversion to the euro.

Question 39

In 1990, Britain joined the ERM. If the German Bundesbank increased interest rates, assuming Britain maintains its exchange rate peg, the likely impact on the British economy would be a(n):

A) recession.
B) inflationary economy.
C) stronger pound.
D) decrease in taxes.

Question 40

Suppose that Canada decides to peg its dollar ($C, or the loonie) to the U.S. dollar at an exchange rate of $C1 = $US1. What will happen to Canadian interest rates as a result of the leftward shift of the U.S. IS curve?

A) They will rise.
B) They will fall.
C) They will not change.
D) The IS curve will show an increase.

Question 41

Which of the following events is least likely to take place under a fixed exchange rate system?

A) an increased volume of trade because of a decline in exchange rate volatility
B) increased cross-border capital flows
C) increase in cost of trade because of higher transaction costs
D) increased cross-border labor flows in integrated economies

Question 42

The fiscal shock in Germany due to reunification caused the Bundesbank to pursue a monetary policy that:

A) was appropriate for Britain, since it had experienced a similar shock.
B) was appropriate for all the other ERM nations but not Britain.
C) was appropriate only for Germany, since neither Britain nor other ERM nations experienced a similar shock.
D) had poor timing, since the monetary action should have come before the reunification.

Question 43

When exchange rates are volatile:

A) firms are assured that they will be able to earn profits from currency swings.
B) firms engage in more trade.
C) trade and cross-border financial and labor flows are reduced as uncertainty and transaction costs take their toll.
D) international economic activity is increased.

Question 44

The greater the degree of economic integration between markets in the home country and the base country:

A) the greater the volume of transactions and the greater the benefit to the home country of fixed exchange rates.
B) the smaller the volume of transactions and the lesser the benefit to the home country of fixed exchange rates.
C) the greater the volume of transactions and the greater the benefit to the home country of flexible exchange rates.
D) the less important the volume of transactions and the greater the importance of ethnic similarities.

Question 45

When a nation chooses to fix or float, it should consider:

A) only its domestic banks, importers, and exporters.
B) only whether it has a great deal of economic integration.
C) only whether it has similar circumstances in terms of demand or supply shocks with its trading partners.
D) both the level of economic integration and the similarity of demand or supply shocks.

Question 46

If Britain allows the pound-DM (Deutsche Mark) exchange rate to float, and there is an increase in the foreign interest rate, it:

A) has no effect on home rates.
B) will cause a monetary contraction and a higher interest rate in Britain.
C) will eventually decrease if trade is affected.
D) always shifts out the home IS curve (Britain), all else equal.

Question 47

During Britain's brief alignment with the ERM from 1990-1992, the trilemma tells us that monetary policy authority no longer existed in Britain. Why?

A) Britain could print more pounds, but could not increase its gold stock.
B) Britain kept monetary growth rates at zero.
C) The British interest rate equaled the German rate to attain uncovered interest parity.
D) The British could lower unemployment using other means such as fiscal policy.

Question 48

Why do symmetric shocks not disturb fixed exchange rate systems?

A) Symmetric shocks happen only once and cause a one-time shift in interest rates.
B) Symmetric shocks imply differences in rates of interest, which is irrelevant to fixed exchange rate systems.
C) A demand shock can easily be dealt with using domestic policies that do not involve other nations.
D) Symmetric shocks require the same medicine in both economies, so monetary policy will be in a direction to help both situations.

Question 49

When a fixed exchange rate system is adopted, it results in all of the following except:

A) reduced uncertainty about exchange rate.
B) decreased volatility in prices.
C) increased volume of trade.
D) decreased volume of trade.

Question 50

Asymmetric shocks pose a problem for nations linked by fixed exchange rates to a base currency. In general:

A) the home nation always has a better outcome than its foreign trading partner.
B) both nations share a common currency and so will experience equal results.
C) when the base currency nation takes any action to counteract the shock, it forces its exchange rate partner to do the same to maintain its peg.
D) both nations only get half the benefit of any economic policy.

Question 51

When a nation is economically integrated with trading partners, fixed exchange rates:

A) would be very harmful to the dynamic nature of trade.
B) could promote integration and economic efficiency by keeping transaction costs low.
C) would be the best choice if that nation became the dominant nation in the transactions.
D) would be adequate but have the disadvantage of discouraging trade because of uncertainty.

Question 52

Symmetric shocks pose fewer problems for nations linked by fixed exchange rates to a base currency. In general:

A) because there are common problems, the economic policy taken by the base currency nation is beneficial for both nations.
B) it gives the nation maintaining the peg more autonomy to deal with financial crises.
C) the base currency nation can just do nothing, and the issue will resolve itself.
D) when there are symmetric shocks, the home nation unlinks its exchange rate from the base currency nation.

Question 53

If there is a greater degree of economic integration between markets in the home country and the base country:

A) the home country will benefit to a greater degree by fixing its exchange rate with the base country.
B) efficiency will be reduced with fixed exchange rates.
C) flexible exchange rates will result in GDP stability.
D) the volume of transactions will be too low to justify an elaborate exchange rate policy.

Question 54

Economic integration refers to the growth of market linkages in:

A) goods only.
B) labor.
C) capital and labor only.
D) goods, capital, and labor.

Question 55

Because of the ERM, if Britain desires to maintain fixed exchange rates, then what would Britain be forced to do after German reunification?

A) It would increase its interest rate and follow the central country's lead.
B) It would ignore the increase in the German interest rate and hope for the best.
C) It would change over to an exchange rate regime based on gold.
D) It would decrease its interest rate to stimulate its economy.

Question 56

If there is a greater degree of economic similarity between the home nation and the base currency nation, the economic stabilization benefit of pegged exchange rates:

A) gets smaller.
B) becomes more equal.
C) gets larger.
D) disappears.

Question 57

A fixed exchange rate causes:

A) transaction costs to increase.
B) efficiency to increase only if the economies are integrated.
C) efficiency to increase under all circumstances.
D) volume of trade to decline.

Question 58

In a fixed exchange rate system, the center country, to whose currency the other countries peg their exchange rate, will:

A) find it difficult to conduct autonomous monetary policy.
B) find it difficult to conduct autonomous fiscal policy.
C) easily implement monetary and fiscal policy to suit its economy.
D) defer to advice from other countries in conducting its domestic policy.

Question 59

Suppose that country A pegs its currency to the currency of country B. Which of the following will NOT be a benefit of this arrangement to country A?

A) lower transactions costs for A to conduct international trade with country B
B) increased capital flows between the two countries because of increased certainty of future exchange rates
C) decreased migration between the two countries because of increased certainty of future exchange rates
D) lower costs of economic transactions costs between the two countries, leading to welfare gains for country A

Question 60

The difference between asymmetric and symmetric shocks is that:

A) the former results in no conflicts in policy goals between countries.
B) the latter results in policy conflicts between countries.
C) the latter results in identical policies being implemented.
D) the former is favored over the latter.

Question 61

Economists studying the impact of currency unions on trade found currency unions:

A) increased levels of trade by 221%.
B) increased levels of trade by 104%.
C) increased levels of trade by 38%.
D) had no effect on trade levels.

Question 62

The authors of your textbook cite one study that estimated that currency unions ________ trade among member countries by approximately ______.

A) increase; 100%
B) increase; 40%
C) decrease; 100%
D) decrease; 40%

Question 63

The symmetry-integration diagram shows a set of situations under which a nation should fix or float. There is a set of combinations of integration and symmetry beyond which the benefits of fixing outweigh the costs. This is shown as:

A) a positively sloped line from the origin, equidistant from both axes.
B) a negatively sloped line, above which a nation should fix and below which a nation should float.
C) a curved line that follows a random path through the space, coming close but never touching either axis.
D) a curved line, the slope of which is at first negative, then increases at an increasing rate as the benefits of fixing increase exponentially.

Question 64

Studies cited in the text indicate that prices in countries with _______ exchange rate systems tend to __________more rapidly than prices in countries with ________ exchange rate systems.

A) fixed; diverge; floating
B) floating; converge; fixed
C) fixed; converge; floating
D) fixed; rise; floating

Question 65

Suppose that Canada pegs its dollar to the U.S. dollar at a rate of $C1 = $US1 and that Canada is a major exporter of crude oil to the United States. The increase in the price of oil that occurred in the second half of 2007 is likely to:

A) cause asymmetric shocks to the U.S. and Canadian economies that will make it difficult for Canada to maintain the $C1 = $US1 exchange rate.
B) cause symmetric shocks to the U.S. and Canadian economies that will make it difficult for Canada to maintain the $C1 = $US1 exchange rate.
C) cause asymmetric shocks to the U.S. and Canadian economies and make it easier for Canada to maintain the $C1 = $US1 exchange rate.
D) cause symmetric shocks to the U.S. and Canadian economies and make it difficult for Canada to maintain the $C1 = $US1 exchange rate.

Question 66

Lower transaction costs are a benefit of fixed exchange rates. Therefore, relative prices in two trading nations linked by fixed exchange rates should:

A) experience more price divergence.
B) experience more price convergence.
C) have less arbitrage and more speculation.
D) have lower costs of production.

Question 67

Suppose that Mexico and Canada both peg their currencies to the U.S. dollar. The relationship between the Mexican peso and the Canadian dollar is best described as a(n):

A) indirect peg.
B) fixed exchange rate system.
C) currency union.
D) free trade area.

Question 68

Economists studying the impact of direct pegs on trade found that direct pegs:

A) increased levels of trade by 21%.
B) increased levels of trade by 44%.
C) increased levels of trade by 58%.
D) had no effect on trade levels.

Question 69

Prices in the European ERM countries on fixed exchange rates have converged ___ than for nations outside the ERM.

A) more slowly
B) more rapidly
C) more completely
D) less completely

Question 70

Based on economic criteria, a nation should choose a fixed exchange rate if:

A) the monetary authorities are capable of handling shocks.
B) the net benefits of fixing versus floating are positive.
C) the net benefits of fixing versus floating are negative.
D) there is a liberal political agenda that restricts government authority over capital flows.

Question 71

Adopting a fixed exchange rate promotes trade if the regime is:

A) semi-floating.
B) indirectly pegged.
C) directly floating.
D) directly pegged.

Question 72

Seventeen European countries use the euro as their common currency. This arrangement is best described as a:

A) currency union.
B) free trade area.
C) common market.
D) monetary union.

Question 73

Research shows that when exchange rates are more volatile, the price differentials are ____ and the convergence is _____.

A) smaller; faster
B) smaller; slower
C) larger; slower
D) larger; faster

Question 74

A recent study found that currency unions _____ bilateral trade by _____ compared with floating regimes.

A) increased; 90%
B) increased; 38%
C) decreased; 10%
D) decreased; 50%

Question 75

As economic similarity rises, the stability costs of a common currency decrease because there are:

A) more asymmetric shocks.
B) fewer asymmetric shocks.
C) no asymmetric shocks.
D) no symmetric shocks.

Question 76

The effect of an exchange rate system on the price level between countries is that:

A) exchange rate volatility causes the prices to converge between countries.
B) a fixed exchange rate results in price convergence.
C) a fixed exchange rate results in price divergence.
D) all member nations of the ERM saw a divergence in prices.

Question 77

A cost-benefit analysis can be done to assess whether a nation should fix its exchange rate. Which of the following is NOT correct?

A) If market integration or symmetry increase, then the net benefits of a fixed exchange rate increase.
B) If the net benefits are negative, economically speaking the nation should float.
C) If the net benefits are positive, economically speaking the nation should float.
D) If the net benefits turn negative, the nation should fix.

Question 78

In fact, several studies focused on Europe concluded that higher exchange rate volatility:

A) is associated with smaller price differentials.
B) is associated with larger price differentials.
C) often precedes a return to stability.
D) promotes trade and cooperation among nations.

Question 79

All other things being equal, we expect fixed exchange rates to promote trade by lowering transactions costs. If that is true, then differences in prices measured in a common currency should be ________among countries with ______exchange rates than among countries with ______ rates.

A) lower; fixed; floating
B) lower; floating; fixed
C) higher; fixed; floating
D) the same; fixed; floating

Question 80

Suppose that Canada pegs its currency to the U.S. dollar at a rate of $C1 = $US1 and that Canada is a major exporter of crude oil to the United States. The increase in the price of oil that occurred in the second half of 2007 is likely to:

A) cause Canada to adopt a contractionary monetary policy and the United States to adopt an expansionary monetary policy.
B) cause Canada to adopt an expansionary monetary policy and the United States to adopt a contractionary monetary policy.
C) cause both Canada and the United States to adopt contractionary monetary policies.
D) cause both Canada and the United States to adopt expansionary monetary policies.