Q: Which equation correctly represents the balance of payments under a pure flexible exchange rate system?

$$\text{Current Account} + \text{Capital Account} = 0$$

Question 1

Which of the following best describes the equilibrium in the foreign exchange market under a flexible exchange rate system?

Accepted Answer

The exchange rate is determined by the supply and demand for foreign currency, bringing the quantity demanded and supplied into balance.

Question 2

Suppose the dollar price of the British pound rises from $$1.50 to 1.80. $$According to the foreign exchange market equilibrium, what does this indicate?

Accepted Answer

There is an excess demand for pounds, causing the dollar to depreciate.

Question 3

If U.S. incomes increase, what is the likely effect on the foreign exchange market for British pounds, assuming all else is constant?

Accepted Answer

The demand for pounds will increase, causing the dollar price of the pound to rise.

Question 4

Which equation correctly represents the balance of payments under a pure flexible exchange rate system?

Accepted Answer

$$	ext{Current Account} + 	ext{Capital Account} = 0$$

Question 5

If the U.S. experiences 50% inflation while prices remain stable in Britain, what is the expected effect on the dollar-pound exchange rate under a flexible exchange rate system?

Accepted Answer

The dollar will depreciate relative to the pound.

Question 6

Which of the following is NOT a characteristic of a fixed-rate, unified currency regime?

Accepted Answer

Countries can conduct independent monetary policy.

Question 7

A country with a pegged exchange rate regime tries to maintain a fixed exchange rate while pursuing a more expansionary monetary policy than the country to which its currency is pegged. What is the likely outcome?

Accepted Answer

The country will face pressure on its currency and may be forced to abandon the peg.

Question 8

Which of the following best explains why bilateral trade between two countries does not need to balance under a flexible exchange rate system?

Accepted Answer

Flexible exchange rates ensure that overall purchases from foreigners balance with overall sales, but not necessarily with each individual country.

Question 9

If the U.S. has a current account deficit, what must be true about its capital account under a pure flexible exchange rate system?

Accepted Answer

The capital account must be in surplus.

Question 10

Which of the following transactions would be recorded in the capital account of the U.S. balance of payments?

Accepted Answer

A German investor purchases shares in a U.S. company.

Question 11

Suppose the demand for British pounds increases in the foreign exchange market. What will happen to the dollar price of the pound?

Accepted Answer

The dollar price of the pound will increase.

Question 12

Which of the following is a likely consequence if the supply of pounds exceeds the demand for pounds at a given exchange rate?

Accepted Answer

The dollar price of the pound will fall.

Question 13

If the U.S. increases its imports from Britain, what is the expected effect on the foreign exchange market?

Accepted Answer

The demand for pounds will increase, causing the dollar to depreciate.

Question 14

Which of the following best describes the relationship between the current account and capital account under a flexible exchange rate system?

Accepted Answer

A current account deficit is matched by a capital account surplus.

Question 15

Which of the following is a real-world example of a fixed-rate, unified currency regime?

Accepted Answer

The United States and Panama both using the U.S. dollar.

Question 16

If the U.S. dollar depreciates relative to the euro, what is the likely effect on U.S. exports to Europe?

Accepted Answer

U.S. exports to Europe will increase.

International Finance and the Foreign Exchange Market: Key Concepts and Mechanisms

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