Suppose That Firms In Boversia Gain Confidence In The Econom
Suppose That Firms In Boversia Gain Confidence In The Economy So Do
1. Suppose that firms in Boversia gain confidence in the economy, so domestic investment rises for any given interest rate. For now, assume that net capital outflows don’t change. What happens to output and the real exchange rate when the Boversian central bank holds the real interest rate constant? (Hint: Stick to the assumptions made in chapter 17.)
A. Output increases and the real exchange rate increases.
B. Output increases and the real exchange rate decreases.
C. Output increases and the real exchange rate stays constant.
D. None of the given answers are correct.
2. Suppose again that investment rises in Boversia. In this case, assume that higher confidence in the economy also causes a decrease in net capital outflows. What happens to output and the real exchange rate when the Boversian central bank holds the real interest constant? (Hint: Stick to the assumptions made in chapter 17.)
A. Output increases and the real exchange rate increases.
B. Output increases and the real exchange rate decreases.
C. Output increases and the real exchange rate stays constant.
D. None of the given answers are correct.
3. Consider the scenario in Figure 17.4: a rise in confidence causes a fall in net capital outflows, and the central bank adjusts the interest rate to keep the exchange rate constant. For this case, what happens to consumption and investment?
A. C increases, I increases.
B. C increases, I is constant.
C. C is constant, I decreases.
D. C is constant, I is constant.
4. Suppose government spending rises in Boversia, shifting the AE curve outward. The central bank would like to keep both output and the real exchange rate constant. How can policymakers accomplish these goals through a combination of an interest-rate adjustment and capital controls?
A. The central bank has to increase the real interest rate and prevent capital outflows.
B. The central bank has to increase the real interest rate and prevent capital inflows.
C. The central bank has to decrease the real interest rate and prevent capital outflows.
D. The central bank cannot achieve the two goals simultaneously.
5. Compare two statements about exchange rates by former Treasury Secretary Henry Paulson, both from 2007: (1) “A strong dollar is in our nation’s interest.” (2) “The currency [China’s yuan] needs to appreciate, and it needs to appreciate faster.” Are the two statements consistent with one another?
A. The two statements are consistent because both imply a yuan appreciation.
B. The two statements are consistent because both imply a dollar depreciation.
C. The two statements are not consistent.
D. There is not enough information to judge the consistency of the two statements.
6. What is the difference between an appreciation and a revaluation of a currency?
A. Appreciation implies that a currency becomes more valuable as measured in units of foreign currency while a revaluation implies that the currency becomes less valuable as measured in units of foreign currency.
B. Appreciation and revaluation both imply that a currency becomes more valuable as measured in units of foreign currency but only appreciation requires government or central bank action.
C. Appreciation and revaluation both imply that a currency becomes more valuable as measured in units of foreign currency, but only revaluation requires government or central bank action.
D. Appreciation happens in response to speculative attacks while revaluation happens in response to controlling inflation.
7. In 2020, Boversia fixes its exchange rate at 0.5 dollars per bover. From 2020 to 2025, Boversia experiences inflation of 5 percent per year, while U.S. inflation is 2 percent per year. By how much does Boversia’s real exchange rate change from 2020 to 2025? Assume an initial price level of 1 in both countries.
A. approximately 2%
B. approximately 3%
C. approximately 10%
D. approximately 15%
8. Some countries have a “crawling peg” for their nominal exchange rate: they adjust it by a fixed percentage every year. For example, Boversia might reduce its exchange rate against the dollar by 3 percent per year. Why might a country adopt a crawling peg?
A. To avoid extreme fluctuations in the nominal exchange rate.
B. To keep the real exchange rate constant.
C. To avoid falling net exports over time.
D. All of the given answers are correct.
9. Boversia has a fixed exchange rate against the dollar. Taxes rise in the United States, reducing U.S. aggregate expenditure. The Federal Reserve adjusts the U.S. interest rate to keep output constant, and Boversia’s central bank adjusts its interest rate to keep the exchange rate constant. What happens to Boversia’s output and interest rate?
A. Output increases, the interest rate increases.
B. Output increases, the interest rate decreases.
C. Output decreases, the interest rate increases.
D. Output decreases, the interest rate decreases.
10. Under the Maastricht Treaty, a country may adopt the euro only if its government budget deficit is less than 3 percent of its GDP. What is the rationale for this requirement? (Hint: See Section 14.2.)
A. This requirement will reduce speculative attacks.
B. This requirement reduces government’s ability to generate seigniorage revenue.
C. This requirement reduces variation in the inflation rates of the euro countries.
D. B and C only.
11. Suppose the U.S. dollar is abolished. To replace it, each of the 12 Federal Reserve Banks issues a currency for its region. The Boston Fed issues the New England dollar, the Richmond Fed issues the Mid-Atlantic dollar, and so on. What are the benefits of this change?
A. This change will make it easier for goods and services to move across the United States.
B. This change will make it easier for technology to spread.
C. This change will make it easier to conduct independent monetary policy that is appropriate for the region.
D. This change will make it easier to control inflation in the United States.
12. A currency board issues money backed by a foreign currency (review Section 2.2). Like a currency union, a currency board is an extreme version of a fixed exchange rate. Are speculative attacks a danger with a currency board?
A. Currency boards can never run out of foreign reserves therefore speculative attacks are not a danger.
B. Currency boards can never run out of foreign reserves, but speculative attacks are still possible.
C. Currency boards can run out of foreign reserves and speculative attacks are still possible.
D. None of the given answers accurately answer the question.
13. A loss of confidence by savers that increases net capital outflows from a country
A. increases the real exchange rate, reducing net exports, output and inflation.
B. increases the real exchange rate, increasing net exports, output and inflation.
C. reduces the real exchange rate, increasing net exports, output and inflation.
D. reduces the real exchange rate, reducing net exports, output and inflation.
14. If a central bank wants to increase the real exchange rate
A. it buys foreign currency, increasing net capital outflows.
B. it buys foreign currency, reducing net capital outflows.
C. it sells foreign currency, increasing net capital outflows.
D. it sells foreign currency, reducing net capital outflows.
15. Central banks attempt to stabilize exchange rates using foreign–exchange interventions because
A. interest–rate adjustments may have undesirable effects on output.
B. interest–rate adjustments have questionable effectiveness for stabilizing exchange rates.
C. interest–rate adjustments stop international capital flows.
D. interest–rate adjustments only work when coordinated with other countries.
16. A limitation of foreign–exchange interventions is that
A. foreign–exchange interventions may destabilize output.
B. foreign–exchange interventions have questionable effectiveness.
C. foreign–exchange interventions impede the efficient flow of savings.
D. foreign–exchange interventions require coordination among countries that are unlikely to agree.
17. An agreement between several countries to work together to change the value of an exchange rate is best described as
A. an interest–rate adjustment.
B. policy coordination.
C. capital controls.
D. a currency union.
18. Fixed exchange rates
A. allow a country to have an independent monetary policy.
B. are immune from speculative attacks.
C. discourage trade and capital flows.
D. help control inflation.
19. When a country with a fixed exchange rate runs out of international reserves
A. it must lower interest rates, impose capital controls, or depreciate its exchange rate.
B. it must raise interest rates, impose capital controls, or depreciate its exchange rate.
C. it must lower interest rates, impose capital controls, or appreciate its exchange rate.
D. it must raise interest rates, impose capital controls, or appreciate its exchange rate.
20. If a country with a fixed exchange has higher inflation than other fixed exchange rate countries
A. its nominal exchange rate appreciates, requiring devaluation to offset the recessionary effects of nominal appreciation.
B. its real exchange rate appreciates, requiring devaluation to offset the recessionary effects of real appreciation.
C. its nominal exchange rate depreciates, requiring devaluation to offset the inflationary effects of nominal appreciation.
D. its real exchange rate depreciates, requiring devaluation to offset the inflationary effects of real appreciation.
21. If a small country fixes its exchange rate against a large country’s currency, and the small country initially has a higher inflation rate than the large country, the two inflation rates will be equalized because
A. the higher inflation in the small country appreciates its real exchange rate, reducing net exports and output, and reducing the inflation rate to the same rate as in the large country.
B. the higher inflation in the small country depreciates its real exchange rate, reducing net exports and output, and reducing the inflation rate to the same rate as in the large country.
C. the higher inflation in the small country appreciates its real exchange rate, increasing net exports and output, and increasing the inflation rate to the same rate as in the large country.
D. the higher inflation in the small country depreciates its real exchange rate, reducing net exports and output, and increasing the inflation rate to the same rate as in the large country.
22. The strategy of a speculative attack is to
A. hedge against exchange–rate risk.
B. appreciate a floating exchange rate.
C. force a revaluation of a fixed exchange rate.
D. force a devaluation of a fixed exchange rate.
Paper For Above instruction
The recent dynamics of currency valuation and exchange rate policies are central to understanding international financial stability and economic management. Particularly, the case of Boversia offers valuable insights into how confidence, investment, government policies, and central bank interventions influence macroeconomic outcomes such as output, exchange rates, and inflation. This paper analyzes the effects of changes in business confidence, capital flows, government spending, and monetary policy on Boversia’s economy, grounded in the concepts introduced in Chapter 17 of the international macroeconomic framework.
Firstly, an increase in firm confidence in Boversia’s economy leads to higher domestic investment, assuming no change in net capital outflows. When the Boversian central bank maintains a constant real interest rate, the increased investment boosts aggregate demand, which in turn raises output. As investment and income grow, the demand for foreign currency may increase, leading to an appreciation of the real exchange rate. An appreciating currency signifies that Boversia’s goods become more expensive relative to foreign goods, which may initially hinder exports. However, because the central bank keeps the real interest rate steady, the immediate effect primarily involves output expansion, alongside a potential increase in the real exchange rate, corresponding to option A: “Output increases and the real exchange rate increases.”
In the case where increased confidence in Boversia causes a decrease in net capital outflows, the impact on the exchange rate can diverge. The decline in outflows reduces foreign currency demand from the Boversian perspective, which can lead to a depreciation of the currency. With the central bank holding the real interest rate constant, the effect is an increase in aggregate demand and output (as in the prior case), but now coupled with a decrease in the real exchange rate, aligning with option B: “Output increases and the real exchange rate decreases.”
When confidence in Boversia rises, and simultaneously, the central bank adjusts its interest rate to stabilize the exchange rate (as depicted in Figure 17.4), the key consequence pertains to domestic consumption and investment behaviors. Since the exchange rate is maintained constant, the increase in confidence boosts consumption through higher income levels, while investment remains steady given the policy response. According to economic theory, under these constraints, consumption increases while investment remains unchanged, which corresponds to answer B: “C increases, I is constant.”
Furthermore, the scenario where government spending increases shifts the aggregate expenditure (AE) curve outward, stimulating growth. To keep both output and the exchange rate stable, the central bank faces a balancing act. Raising interest rates to curb inflation and capital inflows can offset the effects of increased government expenditure. However, the central bank cannot simultaneously control both the exchange rate and output without policy trade-offs. Achieving both goals precisely through interest rate adjustments and capital controls is, therefore, challenging, making option D the most accurate statement: “The central bank cannot achieve the two goals simultaneously.”
Henry Paulson’s two statements from 2007 shed light on the complex relationship between exchange rates and economic policy. His assertion that “A strong dollar is in our nation’s interest” reflects a preference for a stable, possibly appreciating dollar to maintain purchasing power and financial stability. Conversely, his statement that “The currency [China’s yuan] needs to appreciate faster” implies a recognition of undervaluation and the need for yuan appreciation to correct imbalances. These statements are not necessarily inconsistent; the former emphasizes the importance of a stable or strong dollar, while the latter advocates for specific currency appreciation in another country to achieve global balance. Both reflect different policy priorities but are compatible in the broader context of maintaining stability and correcting misalignments.
The difference between appreciation and revaluation pertains to the mechanisms of change. Appreciation generally refers to a market-driven increase in a currency’s value relative to foreign currencies, often influenced by supply and demand, without direct government intervention. Revaluation, however, is a deliberate, official increase in a currency’s value, usually a result of government or central bank action within the framework of a fixed or managed exchange rate system (Cohen, 2014). Thus, appreciation can occur spontaneously, whereas revaluation is an administered adjustment.
Analyzing the 2020-2025 period, Boversia maintains a fixed exchange rate at 0.5 dollars per bover. Despite this peg, differential inflation rates—5% in Boversia versus 2% in the U.S.—impact real purchasing power. The real exchange rate, which accounts for relative prices, would appreciate by approximately 3% over five years, calculated through the formula for inflation differentials: (1 + inflation difference)^years - 1. Using the approximation, the cumulative increase applies as (1 + 0.05)^5 / (1 + 0.02)^5 ≈ 1.03, signifying a 3% real appreciation (Krugman et al., 2018).
Countries utilize crawling pegs partly to avoid excessive volatility and stabilize their trade outlook. This gradual adjustment allows for predictable movements, ensuring that the real exchange rate doesn’t fluctuate sharply, which can harm exports and economic stability. By adopting a crawling peg, Boversia aims to manage inflationary pressures and maintain competitive levels of competitiveness, aligning with the rationale summarized in option D: “All of the given answers are correct” (Dornbusch & Fischer, 2014).
In a scenario where Boversia employs a fixed exchange rate against the dollar, and U.S. taxes reduce aggregate expenditure, the Fed’s adjustment in interest rates seeks to maintain U.S. output. Meanwhile, Boversia’s central bank would also modify interest rates to preserve the exchange rate. As a consequence, to keep the exchange rate constant amidst the US fiscal tightening, Boversia’s output would be affected depending on the monetary policy stance. Typically, to offset fiscal contraction, the central bank might lower interest rates to support output, which in turn reduces the domestic interest rate relative to the world, as outlined in answer B: “Output increases, the interest rate decreases.”
The Maastricht Treaty’s convergence criteria aim at fostering monetary stability and preventing reckless fiscal policies within the Eurozone. The requirement that government deficits stay below 3% of GDP helps avoid excessive borrowing, which can lead to inflation and destabilize the common currency. This threshold is designed to reduce the risk of speculative attacks, enhance fiscal discipline, and anchor inflation expectations, as discussed by European policymakers in Section 14.2 (European Central Bank, 2020). This fiscal criterion contributes to stability by promoting convergence of economic conditions across member states.
Replacing the U.S. dollar with regional currencies issued by Federal Reserve Banks introduces regional autonomy in monetary policy. This approach allows regions to tailor policies to their specific economic conditions, facilitating more effective control over inflation and employment, and enabling local governments to respond swiftly to regional shocks (Goodhart, 2015). While this can enhance regional economic stability and policy responsiveness, it may pose challenges for national cohesion