Under a flexible exchange rate system, if a country wished to pursue contractionary policies relative to the rest of the world,
A)decreases in interest rates would lead to a capital outflow, partially offsetting the desired expansionary effect.
B)increases in interest rates would lead to a capital inflow, partially offsetting the desired contractionary effect.
C)decreases in interest rates would lead to a capital inflow, partially offsetting the desired contractionary effect.
D)increases in interest rates would lead to a capital outflow, partially offsetting the desired expansionary effect.

Question

Quizplus · Accepted Answer

Under a flexible exchange rate system, an increase in interest rates would cause an inflow of capital due to the higher returns on investments, which would lead to an appreciation of the country's currency, making its exports more expensive and less competitive, partially offsetting the desired contractionary effect. Conversely, decreases in interest rates would lead to a capital outflow, as investors seek higher returns elsewhere, putting downward pressure on the exchange rate and partially offsetting the desired expansionary effect. Therefore, the best choice is B.

Under a Flexible Exchange Rate System, If a Country Wished