Chapter 6 Government Influence on Exchange Rates

1. To force the value of the pound to appreciate against the dollar, the Federal
Reserve
should:
A) sell dollars for pounds in the foreign exchange market and the
European Central Bank
(ECB) should sell dollars for pounds in the foreign exchange market.
B) sell pounds for dollars in the foreign exchange market and the European
Central Bank
(ECB) should sell dollars for pounds in the foreign exchange market.
C) sell pounds for dollars in the foreign exchange market and the European
Central Bank
(ECB) should not intervene.
D) sell dollars for pounds in the foreign exchange market and the European
Central
Bank (ECB) should sell pounds for dollars in the foreign exchange market.
ANSWER: A
2. A weak dollar is normally expected to cause:
A) high unemployment and high inflation in the U.S.
B) high unemployment and low inflation in the U.S.
C) low unemployment and low inflation in the U.S.
D) low unemployment and high inflation in the U.S.
ANSWER: D
3. A strong dollar is normally expected to cause:
A) high unemployment and high inflation in the U.S.
B) high unemployment and low inflation in the U.S.
C) low unemployment and low inflation in the U.S.
D) low unemployment and high inflation in the U.S.
ANSWER: B
4. To force the value of the British pound to depreciate against the dollar, the
Federal
Reserve should:
A) sell dollars for pounds in the foreign exchange market and the Bank of
England
should sell dollars for pounds in the foreign exchange market.
B) sell pounds for dollars in the foreign exchange market and the Bank of
England
should sell dollars for pounds in the foreign exchange market.
C) sell pounds for dollars in the foreign exchange market and the Bank
of England
should sell pounds for dollars in the foreign exchange market.
D) sell dollars for pounds in the foreign exchange market and the Bank of

England
should sell pounds for dollars in the foreign exchange market.
ANSWER: C
5. Consider two countries that trade with each other, called X and Y. According to
the text,
inflation in Country X will have a greater impact on inflation in Country Y under
the
_______ system. Now, consider two other countries that trade with each other,
called A
and B. Unemployment in Country A will have a greater impact on unemployment
in
Country B under the _______ system.
A) floating rate; fixed rate
B) floating rate; floating rate
C) fixed rate; fixed rate
D) fixed rate; floating rate
ANSWER: C
6. A primary result of the Bretton Woods Agreement was:
A) the establishment of the European Monetary System (EMS).
B) establishing specific rules for when tariffs and quotas could be imposed by
governments.
C) establishing that exchange rates of most major currencies were to be
allowed to
fluctuate 1% above or below their initially set values.

D) establishing that exchange rates of most major currencies were to be allowed

to
fluctuate freely without boundaries (although the central banks did have the
right to
intervene when necessary).
ANSWER: C
7. A primary result of the Smithsonian Agreement was:
A) the establishment of the European Monetary System (EMS).
B) establishing that exchange rates of most major countries were to be
allowed to
fluctuate 2.25% above or below their initially set values.
C) establishing specific rules for when tariffs and quotas could be imposed by
governments.
D) establishing that exchange rates of most major currencies were to be allowed
to
fluctuate freely without boundaries (although the central banks did have the
right to
intervene when necessary).

ANSWER: B
8. Under a fixed exchange rate system:
A) a foreign exchange market does not exist.
B) central bank intervention in the foreign exchange market is not necessary.
C) central bank intervention in the foreign exchange market is often
necessary.
D) central bank intervention in the foreign exchange market is not allowed.
ANSWER: C
9. Under a managed float exchange rate system, the Fed may attempt to
stimulate the U.S.
economy by _______ the dollar. Such an adjustment in the dollar's value should
_______ the U.S. demand for products produced by major foreign countries.
A) weakening; increase
B) weakening; decrease Contradiction with PDF
C) strengthening; increase
D) strengthening; decrease
ANSWER: B
10. The value of the Canadian dollar, Japanese yen, and Australian dollar with
respect to the
U.S. dollar are part of a:
A) pegged system.
B) fixed system.
C) managed float system. ??????????
D) crawling peg system.
ANSWER: C
11. The interest rate of a country with a currency board:
A) is less stable than it would be without a currency board.
B) is typically below the interest rate of the currency to which it is tied.
C) will move in tandem with the interest rate of the currency to
which it is tied.
D) is completely independent of the interest rate of the currency to which it is
tied.
ANSWER: C
12. The currency of country X is pegged to the currency of country Y. Assume
that county Y's
currency depreciates against the currency of country Z. It is likely that country X
will
export _______ to country Z and import _______ from country Z.
A) more; more
B) less; less

C) more; less
D) less; more
ANSWER: C
13. Assume countries A, B, and C produce goods that are substitutes of each
other and that
these countries engage in trade with each other. Assume that country A's
currency floats
against country B's currency, and that country C's currency is pegged to B's. If
A's
currency depreciates against B, then A's exports to C should _______, and A's
imports
from C should _______.
A) decrease; increase
B) decrease; decrease
C) increase; decrease
D) increase; increase
ANSWER: C
14. Assume a central bank exchanges its currency for other foreign currencies in
the foreign
exchange market, but does not adjust for the resulting change in the money
supply. This
is an example of:
A) pegged intervention.
B) indirect intervention.
C) nonsterilized intervention.
D) sterilized intervention.
E) A and D
ANSWER: C
15. If the Fed desires to weaken the dollar without affecting the dollar
money supply, it
should:
A) exchange dollars for foreign currencies, and sell some of its existing
Treasury security
holdings for dollars.
B) exchange foreign currencies for dollars, and sell some of its existing Treasury
security
holdings for dollars.
C) exchange dollars for foreign currencies, and buy existing Treasury securities
with
dollars.
D) exchange foreign currencies for dollars, and buy existing Treasury securities

with
dollars.
ANSWER: A
16. Which of the following is an example of direct intervention in foreign
exchange markets?
A) lowering interest rates.
B) increasing the discount rate.
C) exchanging dollars for foreign currency.
D) imposing barriers on international trade.
ANSWER: C
17. A strong dollar places _______ pressure on inflation, which in turn places
_______
pressure on the dollar.
A) upward; upward
B) downward; upward
C) upward; downward
D) downward; downward
ANSWER: B
18. The Fed may use a stimulative monetary policy with least concern about
causing inflation
if the dollar's value is expected to:
A) remain stable.
B) strengthen.
C) weaken.
D) none of the above will have an impact on inflation.
ANSWER: B
19. A weaker dollar places _______ pressure on U.S. inflation, which in turn places
_______
pressure on U.S. interest rates, which places _______ pressure on U.S. bond
prices.
A) upward; downward; upward
B) upward; downward; downward
C) upward; upward; downward
D) downward; upward; upward
E) downward; downward; upward
ANSWER: C
20. The euro is the currency:
A) adopted in all western European countries as of 1999.
B) adopted in all eastern European countries as of 1999.
C) adopted in all European countries as of 1999.
D) none of the above

ANSWER: D
21. Assume that Lithuania (a member of the European Union) wishes to adopt
the euro as its
currency. Which of the following is not a requirement Lithuania must meet?
A) restrict the movements of the euro relative to its home currency within a
range of plus
or minus 15 percent from an initially set exchange rate.
B) limit inflation.
C) limit the Lithuanian budget deficit.
D) increase GDP growth by 3% annually.
ANSWER: D
22. The exchange rate mechanism (ERM) refers to the method of linking
__________
currencies to each other within boundaries.
A) Latin American
B) European
C) Asian
D) North American
ANSWER: B
23. Countries that have adopted the euro must agree on a single ________ policy.
A) monetary
B) fiscal
C) worker compensation
D) foreign relations
ANSWER: A
24. The exchange rate mechanism (ERM) crisis in 1992 represents the __________
in
German interest rates that caused other European interest rates to __________,
and
resulted in less aggregate spending.
A) increase; increase
B) increase; decrease
C) decrease; decrease
D) decrease; increase
ANSWER: A
25. The risk-free interest rates among countries that have adopted the euro
should:
A) are not necessarily similar to risk-free rates in other countries.
B) should equal the U.S. risk-free rate.

C) should equal the risk-free rates in other European countries.

D) should equal the risk-free rates in Asian countries.
ANSWER: A
26. Which of the following is true regarding the euro?
A) Exchange rate risk between participating European currencies is completely
eliminated, encouraging more trade and capital flows across European borders.
B) It allows for more consistent economic conditions across countries.
C) It prevents each country from conducting its own monetary policy.
D) All of the above are true.
ANSWER: D
27. It has been argued that the exchange rate can be used as a policy tool.
Assume that the
U.S. government would like to reduce unemployment. Which of the following is
an
appropriate action given this scenario?
A) weaken the dollar.
B) strengthen the dollar.
C) buy dollars with foreign currency in the foreign exchange market.
D) implement a tight monetary policy.
ANSWER: A