Chap 011

Chapter 11
The International Monetary System
True / False Questions
1. The international monetary system refers to the institutional arrangements that

govern exchange rates.
True
False
2. A pegged exchange rate means the value of a currency is fixed relative to a reference
currency.
True
False
3. A dirty float occurs when a country uses pegged exchange rates to value its
currency.
True
False
4. The gold standard called for fixed exchange rates against the U.S. dollar.
True
False
5. The amount of a currency needed to purchase one ounce of gold was referred to as
the gold par value under the gold standard.
True
False
6. A country is said to be in balance-of-trade equilibrium when it produces all the goods

needed for domestic consumption.
True
False
7. The agreement reached at Bretton Woods established the International Monetary

Fund (IMF) and the World Bank.
True
False
8. Implementing a fixed exchange rate regime increases the price inflation in countries.
True
False
11-1
Copyright 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of
McGraw-Hill Education.
9. World Bank offers low-interest loans to risky customers whose credit rating is often
poor.
True
False
10. IDA loans receive direct funding from the World Bank.
True
False
11. The fixed exchange rate system established at Bretton Woods failed due to
speculative pressures on the U.S. dollar.
True
False
12. Gold was declared as the formal reserve asset in the Jamaica agreement of 1976.
True
False
13. IMF members were permitted to sell their own gold reserves at the market price in
the Jamaica agreement.
True
False
14. The value of U.S dollar increased between 1980 and 1985 despite running a growing
trade deficit.
True
False
15. The rise in the value of the dollar gave U.S goods a competitive advantage over
others between 1985 and 1988.
True
False
16. Market forces have produced a stable dollar exchange rate under a floating exchange
rate regime.
True
False
17. Advocates of a floating exchange rate regime argue that removal of the obligation to
maintain exchange rate parity would restore monetary control to a government.
True
False
18. The monetary autonomy argument is supported by the advocates of fixed exchange
rates.
True
False
11-2
19. Fixed exchange rates lead to speculation and uncertainty in the value of currencies.
True
False
20. Supporters of floating exchange rates claim that trade deficits are determined by the
balance between savings and investment in a country.
True
False
21. Exchange rates are determined by the government under a pure "free float" system.
True
False
22. A country valuates its currency without attaching it to a reference currency under the
pegged exchange rate regime.
True
False
23. The great virtue claimed for a pegged exchange rate is that it imposes monetary
discipline on a country and leads to low inflation.
True
False
24. Adopting a pegged exchange rate regime increases the inflationary pressures in a
country.
True
False
25. A country that introduces a currency board commits itself to converting its domestic
currency on demand into another currency at a fixed exchange rate.
True
False
26. A currency board system limits the ability of the government to print money and,
thereby, create inflationary pressures.
True
False
27. Interest rates adjust automatically under a strict currency board system.
True
False
28. Currencies of countries with currency boards will become uncompetitive and
overvalued if local inflation rates are lower than the inflation rate in the country to
which the currency is pegged.
True
False
11-3
29. The IMF's original function was to provide a pool of money from which members could
borrow in the short term.
True
False
30. A currency crisis occurs when investors lose confidence in a country's banking
system.
True
False
31. A foreign debt crisis is a situation in which a country cannot service its foreign debt
obligations.
True
False
32. The IMF made pegging Mexican peso to the dollar, a condition for lending money to
the Mexican government in the 1980s.
True
False
33. Government projects were a factor behind the investment boom in most Southeast
Asian economies.
True
False
34. The quality of investments declined significantly in the Asian countries during the
1990s.
True
False
35. In the 1990s, most of the borrowing by the companies who invested in Asian
countries had been in local currencies.
True
False
36. Most of the loans issued by the IMF are unconditional loans.
True
False
37. Moral hazard arises when people behave recklessly because they know they will be
saved if things go wrong.
True
False
38. The Asian economic crisis was caused by high inflation rates.
True
False
11-4
39. The current system of foreign exchange is a mixed system of government

intervention and speculative activity.
True
False
40. Firms should not utilize the forward exchange market when they are faced with
uncertainty about the future value of currencies.
True
False
41. It is easy for a business to get adequate insurance coverage for exchange rate
changes that might occur several years in the future.
True
False
42. An effective business strategy to reduce economic exposure is to contract out high
value-added manufacturing.
True
False
43. Countries that require substantial loans from the IMF to survive will endure a sharp
contraction of demand in the short term due to IMF-mandated economic policies.
True
False
44. In the face of unpredictable movements in exchange rates, businesses should pursue
strategies that will reduce their economic exposure.
True
False
Multiple Choice Questions
45. The international monetary system refers to the institutional arrangements that
govern ____.
A.
B.
C.
D.
microeconomic parameters
exchange rates
gross domestic produce
foreign direct investment
11-5
46. When the foreign exchange market determines the relative value of a currency, we
say that the country is adhering to a _____ regime.
A.
B.
C.
D.
currency board exchange

pegged exchange rate
fixed exchange rate
floating exchange rate
47. A pegged exchange rate means that the value of a currency is ____.
A.
B.
C.
D.
fixed against other currencies based on an agreement

not determined by free market forces
fixed relative to a reference currency
independent of the valuations of other currencies
48. A dirty float refers to a situation in which ____.
A. a set of currencies are fixed against each other at some mutually agreed on
exchange rate
B. many countries join hands to form a monetary system and an exchange rate
C. more than one foreign currency is used as the formal reference for a country's
currency
D. a country tries to hold its currency against an important reference currency
without a formal pegged rate
49. After World War II, world's major industrial nations arranged their currencies against
each other at a mutually agreed on exchange rate. This is an example of a _____
system.
A.
B.
C.
D.
fixed exchange rate

dirty float exchange
50. Which of the following statements is true of the Gold standard?
A.
B.
C.
D.
Gold standard was adopted only by the smaller nations of the world.
Currencies were pegged to gold under the gold standard.
Convertibility to gold was not guaranteed under the gold standard.
Gold standard was not helpful in maintaining balance-of-trade equilibrium.
11-6
51. Gold par value refers to the ____.
A.
B.
C.
D.
ratio of price of gold in a currency to price of gold in U.S. dollars

amount of a currency needed to purchase one ounce of gold
ratio of price of gold in a currency to price of gold in euros
amount of gold required to equal the reference currency that a nation is using
52. A country is said to be in balance-of-trade equilibrium when ____.
A. it has the potential to produce all goods that its residents want without engaging in
foreign trade
B. the income its residents earn from exports is equal to the money its residents pay
for imports
C. the country import all goods that its residents want by engaging in foreign trade
D. it has the potential to balance the production and procurement of the basic
amenities that it needs
53. A country's trade balance is in surplus when _____.
A.
B.
C.
D.
its exports are more than its imports

it experiences negative inflation
its exports equal the imports
the prices of commodities are low in the country
54. Which of the following is an advantage of using the gold standard?
A. The standard makes sure that goods are not priced out from markets due to
inflation.
B. The standard does not require a commitment from nations to maintain its
currency's value.
C. The standard effectively prevents the devaluation of currencies across the world.
D. It contains a powerful mechanism for achieving balance-of-trade equilibrium by all
countries.
55. The agreement reached at Bretton Woods established ____.
A.
B.
C.
D.
International Monetary Fund

World Economic Forum
United Nations
International Atomic Energy Agency
11-7
56. Which of the following observations is true of the Bretton Woods agreement?
A. All countries agreed to fix the value of their currency in terms of gold under the
agreement.
B. The system accepted Pound as the official reference currency against gold.
C. The agreement established a floating system of monetary exchange.
D. Two multinational institutions, World Economic Forum and WTO, were formed
under the agreement.
57. The World Bank was established at the at Bretton Woods conference to ____.
A.
B.
C.
D.
establish an international monetary system

promote general economic development
establish gold standard across the world
fund the initiatives of the United Nations
58. Identify the currency that was convertible to gold under the Bretton Woods system.
A.
B.
C.
D.
Pound
Yen
Euro
Dollar
59. What will happen if a country increases its money supply rapidly under fixed
exchange rate regime?
A. Imports will become less attractive in that country.

B.
The country will face negative inflation.
C.
Trade deficit would widen in that country.
D. The country's products will become more attractive in world markets.
60. Which of the following is a disadvantage of using a rigid policy of fixed exchange
rates?
A. It is likely to create high unemployment in some cases.

B. It will lead to inflationary economies across the world.
C. It is likely to bring about trade wars between nations.
D. It will instigate competitive devaluations and intense competition.
11-8
61. Which of the following is a function of World Bank?
A.
B.
C.
D.
Implementing a rigid fixed exchange rate regime

Promoting gold standard across the world
Lending money to governments for development
Implementing a flexible fixed exchange rate regime
62. Which of the following is a factor that initiated the collapse of the fixed exchange rate
system?
A.
B.
C.
D.
Worsening of Great Britain's balance of trade

Recession in third world countries
Price inflation in Europe
Worsening of U.S. foreign trade position
63. Which of the following changes were made to IMF's Articles of Agreement in the
Jamaica agreement?
A.
B.
C.
D.
IMF members were permitted to use Dollar as the convertible currency.

Gold was declared as a formal reserve asset for IMF members.
IMF members were permitted to sell their gold reserves at the market price.
IMF members were restricted from entering the foreign exchange market.
64. _____ exchange rates were declared as acceptable in the Jamaica agreement of IMF.
A.
B.
C.
D.
Pegged
Fixed
Floating
Gold standard
65. United States had large and growing trade deficit between 1980 and 1985. Despite
this, the value of U.S. dollar rose during this period. Which of the following is a factor
that caused this occurrence?
A. United States attracted heavy inflows of capital from foreign investors during this
period.
B. Banks in the United States offered low interest rates to investors during this
period.
C. Markets across the world witnessed strong economies during this period.
D. Developed countries in Europe maintained trade equilibrium and supplied goods to
underdeveloped countries.
11-9
66. Which of the following is the reason why the current foreign-exchange system is
sometimes thought of as a managed-float system?
A.
B.
C.
D.
The exchange rates of a currency are determined by market forces.

Governments intervene frequently in the foreign exchange market.
Major currencies are allowed to freely float against each other.
Countries use a reference currency to estimate the value of their currencies.
67. Which of the following arguments is in favor of floating exchange rates?
A. A country's ability to expand or contract its money supply should be limited by the
need to maintain exchange rate parity.
B. Maintaining balance of trade equilibrium is not in the best interest of a country.
C. Countries can isolate themselves from uncertainties when they trade using a
mutually agreed on exchange rate.
D. Governments can restore monetary control by removing the obligation to maintain
exchange rate parity.
68. The monetary autonomy argument holds that ____.
A.
B.
C.
D.
each country should be allowed to choose its own inflation rate

inflation is beneficial to a country's economy and growth
inflation is detrimental to a country's economy and growth
countries should restrict inflation based on the global standards
69. Which of the following arguments is against the use of fixed exchange rates?
A. Monetary discipline is the most important determinant of a strong economy.

B. Each country has the freedom to choose its own inflation rate.
C. Market speculation can cause fluctuations in exchange rates.
D. Governments are likely to expand the monetary supply far too rapidly due to
political pressures.
70. Which of the following arguments strengthen the idea of floating exchange rates?
A.
B.
C.
D.
External agencies should not interfere in the monetary policies of a country.

Trade deficits can be corrected through changes in exchange rates.
Changes in exchange rates will not impact the trade balance in a country.
Governments should act in ways to minimize the uncertainty in monetary markets.
11-10
71. Those in favor of floating exchange rate claim that ____.
A.
B.
C.
D.
uncertainty in monetary markets dampens the growth of international trade

inflation is beneficial to a country if it is controlled closely
trade imbalances can be adjusted by using floating exchange rates
governments can have rigid control over monetary markets by using floating rates
72. Which of the following is an exchange rate policy where the exchange rate is
determined completely by market forces?
A.
B.
C.
D.
Managed float
Fixed peg
Free float
Currency board
73. Which of the following is the exchange rate policy where the government intervenes
in the exchange rate system only in a limited way?
A.
B.
C.
D.
Managed float
Fixed peg
Free float
Currency board
74. Under a _____ exchange rate regime, a country will attach the value of its currency to
that of a major currency.
A.
B.
C.
D.
managed float
pegged
free float
currency board
75. Which of the following statements is true of pegged exchange rates?
A. A pegged exchange rate allows a country's currency to be determined by market

forces.
B. A pegged exchange rate weakens the monetary discipline of a country.
C. Pegged exchange rates are popular among many of the world's smaller nations.
D. Adopting a pegged exchange rate regime increases inflationary pressures in a
country.
11-11
76. A country that introduces a currency board commits itself to converting its domestic
currency on demand into ____.
A.
B.
C.
D.
another currency at a fixed exchange rate

gold or silver at a fixed exchange rate
gold or silver at a floating exchange rate
another currency at a floating exchange rate
77. Under a currency board system, ____.
A.
B.
C.
D.
inflation rates are maintained at high level

countries issue domestic notes at will
interest rates remain constant
government lacks the ability to set interest rates
78. A currency crisis occurs due to ____.
A.
B.
C.
D.
the loss of confidence in a country's banking system

heavy foreign debt obligations
high levels of trade deficit
a speculative attack on the exchange value
79. Moral hazard arises when people behave recklessly because ____.
A. of the restrictions that exist in a country's monetary policy

B. of the restrictions that IMF has imposed on them
C. they know they will be saved if things go wrong
D. they face financial difficulties arising out of external factors
80. Which of the following is a common criticism against IMF?
A.
B.
C.
D.
IMF lacks any real mechanism for accountability.

It is hesitant to help banks when they are in crisis.
IMF has not intervened to resolve the Asian crisis.
It did not try to resolve the Mexican currency crisis.
81. Which of the following is NOT a characteristic of a foreign debt crisis?
A.
B.
C.
D.
Widening current account deficit

Excessive expansion of domestic borrowing
Low relative price inflation rates
Asset price inflation
11-12
82. Which of the following observations is true of the current system of foreign exchange
market?
A. Most of the currencies can be converted to gold in the current system of foreign
exchange.
B. The current system is driven by fixed exchange rates.
C. Currencies float freely against others in the current system.
D. The current system is a combination of government intervention and speculative
activity.
83. Which of the following will help a company hedge against currency fluctuations?
A.
B.
C.
D.
Finding a large supplier to supply all the raw materials

In-house manufacturing of raw materials
Basing business in a single country
Dispersing production to different geographic locations
84. Contracting out manufacturing allows companies to reduce economic exposure

because ____.
A.
B.
C.
D.
having multiple suppliers attracts subsidies from government

it reduces the pressure on them to maintain a trade surplus
it allows companies to shift suppliers from country to country
quality issues are insignificant when manufacturing is contracted to others
85. Increasingly the _____ has been acting as macroeconomic police of the world
economy, insisting that countries seeking significant borrowings adopt certain
macroeconomic policies.
A.
B.
C.
D.
ECOSOC
IMF
UN
World Bank
Essay Questions
11-13
86. What is international monetary system? What are the major trading currencies?
87. Explain the floating exchange rate regime. Give examples.
88. Compare and contrast a pegged exchange system with a dirty float system of
exchange rates.
11-14
89. How does a fixed exchange rate system work?
90. What is gold standard? What was the major advantage of the system?
91. With the help of an example, explain how balance-of-trade equilibrium is maintained
under the gold standard.
11-15
92. What is the Bretton Woods agreement? How was it different from the gold standard?
93. Identify the multinational institutions that were established at the Bretton Woods
agreement. What were their roles in the international monetary system?
94. Explain the events that led to the failure of the Bretton Woods system.
11-16
95. Discuss the significance of the Jamaica Agreement.
96. Discuss the arguments that favor a floating exchange rate system against a fixed
exchange rate system.
97. Present the common arguments that favor fixed exchange rates.
11-17
98. Describe the different exchange rate policies that are in practice today.
99. Discuss the pegged exchange rate regime.
100 What is a currency board? Why do countries choose this type of system? What are
.
the disadvantages of this type of arrangement?
11-18
101 Compare currency crisis, banking crisis, and foreign debt crisis.
.
102 Recent policies of the IMF have drawn a lot of criticism. Discuss these criticisms.
.
103 Discuss the criticism that IMF is exacerbating a problem called moral hazard.
.
11-19
104 How can international companies reduce their economic exposure in a world of
.
constantly fluctuating exchange rates?
105 Do you think businesses can influence government policies? Explain your answer.
.
11-20
Chapter 11 The International Monetary System Answer Key
True / False Questions
1.
The international monetary system refers to the institutional arrangements that

TRUE
AACSB: Analytic
Accessibility: Keyboard Navigation
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 11-01 Describe the historical development of the modern global monetary system.
Topic: Introduction
2.
A pegged exchange rate means the value of a currency is fixed relative to a

reference currency.
TRUE
A pegged exchange rate means the value of the currency is fixed relative to a
reference currency, such as the U.S. dollar, and then the exchange rate between
that currency and other currencies is determined by the reference currency
exchange rate.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
11-21
3.
A dirty float occurs when a country uses pegged exchange rates to value its
currency.
FALSE
Countries, while not adopting a formal pegged rate, try to hold the value of their
currency within some range against an important reference currency such as the
U.S. dollar, or a "basket" of currencies. This is often referred to as a dirty float.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
4.
The gold standard called for fixed exchange rates against the U.S. dollar.
FALSE
Pegging currencies to gold and guaranteeing convertibility is known as the gold
standard. By 1880, most of the world's major trading nations, including Great
Britain, Germany, Japan, and the United States, had adopted the gold standard.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: The Gold Standard
5.
The amount of a currency needed to purchase one ounce of gold was referred to
as the gold par value under the gold standard.
TRUE
Under the gold standard, the amount of a currency needed to purchase one ounce
of gold was referred to as the gold par value.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-22
6.
A country is said to be in balance-of-trade equilibrium when it produces all the

goods needed for domestic consumption.
FALSE
A country is said to be in balance-of-trade equilibrium when the income its
residents earn from exports is equal to the money its residents pay to other
countries for imports (the current account of its balance of payments is in
balance).
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
7.
The agreement reached at Bretton Woods established the International Monetary

Fund (IMF) and the World Bank.
TRUE
The agreement reached at Bretton Woods established two multinational
institutions the International Monetary Fund (IMF) and the World Bank.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 11-02 Explain the role played by the World Bank and the IMF in the international monetary
system.
Topic: The Bretton Woods System
8.
Implementing a fixed exchange rate regime increases the price inflation in

countries.
FALSE
A fixed exchange rate regime imposes monetary discipline on countries, thereby
curtailing price inflation.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
11-23
9.
World Bank offers low-interest loans to risky customers whose credit rating is often
poor.
TRUE
World Bank offers low-interest loans to risky customers whose credit rating is often
poor, such as the governments of underdeveloped nations.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
10.
IDA loans receive direct funding from the World Bank.

FALSE
One of the funding schemes of the World Bank is overseen by the International
Development Association (IDA), an arm of the bank created in 1960. Resources to
fund IDA loans are raised through subscriptions from wealthy members such as the
United States, Japan, and Germany.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
11.
The fixed exchange rate system established at Bretton Woods failed due to
speculative pressures on the U.S. dollar.
TRUE
U.S. dollar was the only currency that could be converted into gold in the fixed
exchange rate system established at Bretton Woods. As the currency that served
as the reference point for all others, the dollar occupied a central place in the
system. The system failed when its key currency U.S. dollar faced speculative
pressure.
AACSB: Analytic
Blooms: Understand
Difficulty: 2 Medium
Topic: The Collapse of the Fixed Exchange Rate System
11-24
12.
Gold was declared as the formal reserve asset in the Jamaica agreement of 1976.
FALSE
In the Jamaica agreement, gold was abandoned as a reserve asset. The IMF
returned its gold reserves to members at the current market price, placing the
proceeds in a trust fund to help poor nations.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: The Floating Exchange Rate Regime
13.
IMF members were permitted to sell their own gold reserves at the market price in
the Jamaica agreement.
TRUE
In the Jamaica agreement, gold was abandoned as a reserve asset. IMF also
permitted its members to sell their own gold reserves at the market price.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
14.
The value of U.S dollar increased between 1980 and 1985 despite running a
growing trade deficit.
TRUE
The rise in the value of the dollar between 1980 and 1985 occurred when the
United States was running a large and growing trade deficit, importing
substantially more than it exported. A number of favorable factors overcame the
unfavorable effect of a trade deficit.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-25
15.
The rise in the value of the dollar gave U.S goods a competitive advantage over
others between 1985 and 1988.
FALSE
Rise in dollar will make U.S. goods less competitive. The rise in the dollar priced
U.S. goods out of foreign markets and made imports relatively cheap.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
16.
Market forces have produced a stable dollar exchange rate under a floating
exchange rate regime.
FALSE
Under a floating exchange rate regime, market forces have produced a volatile
dollar exchange rate. Governments have sometimes responded by intervening in
the marketbuying and selling dollarsin an attempt to limit the market's
volatility and to correct what they see as overvaluation or potential undervaluation
of the dollar.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
17.
Advocates of a floating exchange rate regime argue that removal of the obligation
to maintain exchange rate parity would restore monetary control to a
government.
TRUE
to maintain exchange rate parity would restore monetary control to a government.
AACSB: Analytic
Blooms: Understand
Learning Objective: 11-03 Compare and contrast the differences between a fixed and a floating exchange rate
system.
Topic: Fixed versus Floating Exchange Rates
11-26
18.
The monetary autonomy argument is supported by the advocates of fixed

exchange rates.
FALSE
Advocates of floating rates argue that each country should be allowed to choose
its own inflation rate. This is called the monetary autonomy argument. Advocates
of fixed rates argue against this.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
19.
Fixed exchange rates lead to speculation and uncertainty in the value of

currencies.
FALSE
Speculation can make exchange rates volatile in the floating exchange rate
system. Speculation also adds to the uncertainty surrounding future currency
movements that characterizes floating exchange rate regimes. A fixed exchange
rate eliminates such uncertainty.
AACSB: Analytic
Blooms: Understand
system.
20.
Supporters of floating exchange rates claim that trade deficits are determined by
the balance between savings and investment in a country.
FALSE
Those in favor of floating exchange rates argue that floating rates help adjust
trade imbalances. Critics of floating rates claim that trade deficits are determined
by the balance between savings and investment in a country, not by the external
value of its currency.
AACSB: Analytic
Blooms: Understand
11-27
system.
21.
Exchange rates are determined by the government under a pure "free float"
system.
FALSE
Under a pure "free float" system, exchange rates are determined by market forces.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 11-04 Identify exchange rate regimes used in the world today and why countries adopt
different exchange rate regimes.
Topic: Exchange Rate Regimes in Practice
22.
A country valuates its currency without attaching it to a reference currency under

the pegged exchange rate regime.
FALSE
Under a pegged exchange rate regime, a country will peg the value of its currency
to that of a major currency so that, for example, as the U.S. dollar rises in value, its
own currency rises too.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
23.
The great virtue claimed for a pegged exchange rate is that it imposes monetary
discipline on a country and leads to low inflation.
TRUE
As with a full fixed exchange rate regime, the great virtue claimed for a pegged
exchange rate is that it imposes monetary discipline on a country and leads to low
inflation.
AACSB: Analytic
Blooms: Understand
11-28
24.
Adopting a pegged exchange rate regime increases the inflationary pressures in a

country.
FALSE
Evidence shows that adopting a pegged exchange rate regime moderates
inflationary pressures in a country.
AACSB: Analytic
Blooms: Understand
25.
A country that introduces a currency board commits itself to converting its

domestic currency on demand into another currency at a fixed exchange rate.
TRUE
domestic currency on demand into another currency at a fixed exchange rate. To
make this commitment credible, the currency board holds reserves of foreign
currency equal at the fixed exchange rate to at least 100 percent of the domestic
currency issued.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
26.
A currency board system limits the ability of the government to print money and,
thereby, create inflationary pressures.
TRUE
The currency board can issue additional domestic notes and coins only when there
are foreign exchange reserves to back it. This limits the ability of the government
to print money and, thereby, create inflationary pressures.
AACSB: Analytic
Blooms: Understand
11-29

27.
Interest rates adjust automatically under a strict currency board system.

TRUE
Under a strict currency board system, interest rates adjust automatically. If
investors want to switch out of domestic currency into, for example, U.S. dollars,
the supply of domestic currency will shrink. This will cause interest rates to rise
until it eventually becomes attractive for investors to hold the local currency again.
AACSB: Analytic
Blooms: Understand
28.
Currencies of countries with currency boards will become uncompetitive and

overvalued if local inflation rates are lower than the inflation rate in the country to
which the currency is pegged.
FALSE
If local inflation rates remain higher than the inflation rate in the country to which
the currency is pegged, the currencies of countries with currency boards can
become uncompetitive and overvalued.
AACSB: Analytic
Blooms: Understand
29.
The IMF's original function was to provide a pool of money from which members
could borrow in the short term.
TRUE
The IMF's original function was to provide a pool of money from which members
could borrow, short term, to adjust their balance-of-payments position and
maintain their exchange rate.
AACSB: Analytic
Blooms: Remember
11-30
Difficulty: 1 Easy
Learning Objective: 11-05 Understand the debate surrounding the role of the IMF in the management of
financial crises.
Topic: Crisis Management by the IMF
30.
A currency crisis occurs when investors lose confidence in a country's banking

system.
FALSE
A currency crisis occurs when a speculative attack on the exchange value of a
currency results in a sharp depreciation in the value of the currency or forces
authorities to expend large volumes of international currency reserves and sharply
increase interest rates to defend the prevailing exchange rate.
AACSB: Analytic
Blooms: Understand
financial crises.
31.
A foreign debt crisis is a situation in which a country cannot service its foreign debt
obligations.
TRUE
A foreign debt crisis is a situation in which a country cannot service its foreign debt
obligations, whether private-sector or government debt.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
32.
The IMF made pegging Mexican peso to the dollar, a condition for lending money
to the Mexican government in the 1980s.
TRUE
The Mexican peso had been pegged to the dollar since the early 1980s when the
International Monetary Fund made it a condition for lending money to the Mexican
government.
AACSB: Analytic
Blooms: Remember
11-31
Difficulty: 1 Easy
financial crises.
33.
Government projects were a factor behind the investment boom in most Southeast
Asian economies.
TRUE
An added factor behind the investment boom in most Southeast Asian economies
was the government. In many cases, the governments had embarked on huge
infrastructure projects.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
34.
The quality of investments declined significantly in the Asian countries during the
1990s.
TRUE
Volume of investments increased in the Asian countries during the 1990s. As the
volume of investments ballooned, often at the bequest of national governments,
the quality of many of these investments declined significantly.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
35.
In the 1990s, most of the borrowing by the companies who invested in Asian
countries had been in local currencies.
FALSE
The companies that had made the investments in Asia, in 1990s, were under huge
debt burdens and they were finding it difficult to service. Much of the borrowing
had been in U.S. dollars, as opposed to local currencies.
AACSB: Analytic
Blooms: Remember
11-32
Difficulty: 1 Easy
financial crises.
36.
Most of the loans issued by the IMF are unconditional loans.

FALSE
All IMF loan packages come with conditions attached. Until very recently, the IMF
has insisted on a combination of tight macroeconomic policies, including cuts in
public spending, higher interest rates, and tight monetary policy.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
37.
Moral hazard arises when people behave recklessly because they know they will
be saved if things go wrong.
TRUE
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
38.
The Asian economic crisis was caused by high inflation rates.

FALSE
The Asian economic crisis and the global financial of 2008-2009 crisis were caused
not by high inflation rates, but by excessive debt.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
11-33
39.
The current system of foreign exchange is a mixed system of government

intervention and speculative activity.
TRUE
The current system of foreign exchange is a mixed system in which a combination
of government intervention and speculative activity can drive the foreign
exchange market.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Learning Objective: 11-06 Explain the implications of the global monetary system for currency management
and business strategy.
Topic: Implications for Managers
40.
Firms should not utilize the forward exchange market when they are faced with
uncertainty about the future value of currencies.
FALSE
Faced with uncertainty about the future value of currencies, firms can utilize the
forward exchange market.
AACSB: Analytic
Blooms: Understand
41.
It is easy for a business to get adequate insurance coverage for exchange rate
changes that might occur several years in the future.
FALSE
It is difficult if not impossible to get adequate insurance coverage for exchange
rates that might occur several years in the future. The forward market tends to
offer coverage for exchange rate changes a few monthsnot yearsahead.
AACSB: Analytic
Blooms: Understand
Difficulty: 1 Easy
11-34
42.
An effective business strategy to reduce economic exposure is to contract out high

value-added manufacturing.
FALSE
Another way of building strategic flexibility and reducing economic exposure
involves contracting out manufacturing. This allows a company to shift suppliers
from country to country. However, this kind of strategy may work only for low
value-added manufacturing (e.g., textiles) in which the individual manufacturers
have few if any firm-specific skills that contribute to the value of the product.
AACSB: Analytic
Blooms: Understand
Difficulty: 1 Easy
43.
Countries that require substantial loans from the IMF to survive will endure a sharp
contraction of demand in the short term due to IMF-mandated economic policies.
TRUE
Increasingly, the IMF has been acting as the macroeconomic police of the world
economy, insisting that countries seeking significant borrowings adopt IMFmandated macroeconomic policies. These policies typically include antiinflationary monetary policies and reductions in government spending. In the short
run, such policies usually result in a sharp contraction of demand.
AACSB: Analytic
Blooms: Understand
44.
In the face of unpredictable movements in exchange rates, businesses should

pursue strategies that will reduce their economic exposure.
TRUE
It makes sense for businesses to pursue strategies that will increase the
company's strategic flexibility in the face of unpredictable exchange rate
movementsthat is, to pursue strategies that reduce the economic exposure of
the firm.
AACSB: Analytic
11-35

Blooms: Understand
Difficulty: 1 Easy
Multiple Choice Questions
45.

govern ____.
A.
B.
C.
D.
microeconomic parameters
exchange rates
gross domestic produce
foreign direct investment

AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
46.
When the foreign exchange market determines the relative value of a currency, we
say that the country is adhering to a _____ regime.
A.
B.
C.
D.
currency board exchange

fixed exchange rate
When the foreign exchange market determines the relative value of a currency, we
say that the country is adhering to a floating exchange rate regime. Four of the
world's major trading currenciesthe U.S. dollar, the European Union's euro, the
Japanese yen, and the British poundare all free to float against each other.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-36
Topic: Introduction
47.
A pegged exchange rate means that the value of a currency is ____.
A.
B.
C.
D.
fixed against other currencies based on an agreement

not determined by free market forces
fixed relative to a reference currency
independent of the valuations of other currencies
exchange rate.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
48.
A dirty float refers to a situation in which ____.
A. a set of currencies are fixed against each other at some mutually agreed on
exchange rate
B. many countries join hands to form a monetary system and an exchange rate
C. more than one foreign currency is used as the formal reference for a country's
currency
D. a country tries to hold its currency against an important reference currency
without a formal pegged rate
Countries, while not adopting a formal pegged rate, try to hold the value of their
currency within some range against an important reference currency such as the
U.S. dollar, or a "basket" of currencies. This is often referred to as a dirty float.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
11-37
49.
After World War II, world's major industrial nations arranged their currencies
against each other at a mutually agreed on exchange rate. This is an example of a
_____ system.
A.
B.
C.
D.
fixed exchange rate

dirty float exchange
With a fixed exchange rate system, the values of a set of currencies are fixed
against each other at some mutually agreed on exchange rate.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
Topic: Introduction
50.
Which of the following statements is true of the Gold standard?
A. Gold standard was adopted only by the smaller nations of the world.
B. Currencies were pegged to gold under the gold standard.
C. Convertibility to gold was not guaranteed under the gold standard.
D. Gold standard was not helpful in maintaining balance-of-trade equilibrium.
AACSB: Analytic
Blooms: Understand
11-38
51.
Gold par value refers to the ____.
A. ratio of price of gold in a currency to price of gold in U.S. dollars

B. amount of a currency needed to purchase one ounce of gold
C. ratio of price of gold in a currency to price of gold in euros
D. amount of gold required to equal the reference currency that a nation is using
The amount of a currency needed to purchase one ounce of gold is referred to as
the gold par value.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
52.
A country is said to be in balance-of-trade equilibrium when ____.
A. it has the potential to produce all goods that its residents want without
engaging in foreign trade
B. the income its residents earn from exports is equal to the money its residents
pay for imports
C. the country import all goods that its residents want by engaging in foreign
trade
D. it has the potential to balance the production and procurement of the basic
amenities that it needs
A country is said to be in balance-of-trade equilibrium when the income its
residents earn from exports is equal to the money its residents pay to other
countries for imports (the current account of its balance of payments is in
balance).
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-39
53.
A country's trade balance is in surplus when _____.
A.
B.
C.
D.
its exports are more than its imports

it experiences negative inflation
its exports equal the imports
the prices of commodities are low in the country
A country's trade balance is in surplus when it exports more than what it imports.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
54.
Which of the following is an advantage of using the gold standard?
A. The standard makes sure that goods are not priced out from markets due to
inflation.
B. The standard does not require a commitment from nations to maintain its
currency's value.
C. The standard effectively prevents the devaluation of currencies across the
world.
D. It contains a powerful mechanism for achieving balance-of-trade equilibrium by
all countries.
The great strength claimed for the gold standard was that it contained a powerful
mechanism for achieving balance-of-trade equilibrium by all countries.
AACSB: Analytic
Blooms: Understand
11-40
55.
The agreement reached at Bretton Woods established ____.
A.
B.
C.
D.
International Monetary Fund

World Economic Forum
United Nations
International Atomic Energy Agency
The agreement reached at Bretton Woods established two multinational

institutions the International Monetary Fund (IMF) and the World Bank.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
56.
Which of the following observations is true of the Bretton Woods agreement?
A. All countries agreed to fix the value of their currency in terms of gold under the
agreement.
B. The system accepted Pound as the official reference currency against gold.
C. The agreement established a floating system of monetary exchange.
D. Two multinational institutions, World Economic Forum and WTO, were formed
under the agreement.
The Bretton Woods agreement called for a system of fixed exchange rates that
would be policed by the IMF. Under the agreement, all countries were to fix the
value of their currency in terms of gold but were not required to exchange their
currencies for gold.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
11-41
57.
The World Bank was established at the at Bretton Woods conference to ____.
A.
B.
C.
D.
establish an international monetary system

promote general economic development
establish gold standard across the world
fund the initiatives of the United Nations
The agreement reached at Bretton Woods established the World Bank. The task of
the World Bank was to promote general economic development.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
58.
Identify the currency that was convertible to gold under the Bretton Woods
system.
A.
B.
C.
D.
Pound
Yen
Euro
Dollar
Under the Bretton Woods agreement, all countries were to fix the value of their
currency in terms of gold but were not required to exchange their currencies for
gold. Only the dollar remained convertible into gold.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
11-42
59.
What will happen if a country increases its money supply rapidly under fixed
exchange rate regime?
A.
Imports will become less attractive in that country.
B.
The country will face negative inflation.
C.
Trade deficit would widen in that country.
D. The country's products will become more attractive in world markets.
A fixed exchange rate regime imposes monetary discipline on countries and
curtails price inflation. For example, if a country increases its money supply by
printing more currency, the increase in money supply would lead to price inflation.
Given fixed exchange rates, inflation would make the country's goods
uncompetitive in world markets, while the prices of imports would become more
attractive in that country. The result would be a widening trade deficit in the
country, with the country importing more than it exports.
AACSB: Analytic
Blooms: Apply
Difficulty: 3 Hard
system.
60.
Which of the following is a disadvantage of using a rigid policy of fixed exchange

rates?
A. It is likely to create high unemployment in some cases.

B.
It will lead to inflationary economies across the world.
C.
It is likely to bring about trade wars between nations.
D. It will instigate competitive devaluations and intense competition.
A rigid policy of fixed exchange rates would be too inflexible. In some cases, a
country's attempts to reduce its money supply growth and correct a persistent
balance-of-payments deficit could force the country into recession and create high
unemployment.
AACSB: Analytic
Blooms: Understand
system.
11-43
61.
Which of the following is a function of World Bank?
A.
B.
C.
D.
Implementing a rigid fixed exchange rate regime

Promoting gold standard across the world
Lending money to governments for development
Implementing a flexible fixed exchange rate regime
The World Bank was established to reconstruct world economies. The bank lends
money to entities such as governments.
AACSB: Analytic
Blooms: Remember
system.
62.
Which of the following is a factor that initiated the collapse of the fixed exchange
rate system?
A.
B.
C.
D.
Worsening of Great Britain's balance of trade

Recession in third world countries
Price inflation in Europe
Worsening of U.S. foreign trade position
U.S. dollar had a special role in the fixed exchange rate system as the only
currency that could be converted into gold. This meant that any pressure on the
dollar would devalue the system. The increase in inflation and the worsening of the
U.S. foreign trade position gave rise to speculation in the foreign exchange market
that the dollar would be devalued. This initiated the demise of the fixed exchange
rate system.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-44
63.
Which of the following changes were made to IMF's Articles of Agreement in the
Jamaica agreement?
A. IMF members were permitted to use Dollar as the convertible currency.

B. Gold was declared as a formal reserve asset for IMF members.
C. IMF members were permitted to sell their gold reserves at the market price.
D. IMF members were restricted from entering the foreign exchange market.
IMF members met in Jamaica in January 1976 and agreed to the rules for the
international monetary system that are in place today. In the meeting, gold was
abandoned as a reserve asset. IMF members were permitted to sell their own gold
reserves at the market price.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
64.
_____ exchange rates were declared as acceptable in the Jamaica agreement of

IMF.
A.
B.
C.
D.
Pegged
Fixed
Floating
Gold standard
Floating rates were declared acceptable in the Jamaica agreement. IMF members
were also permitted to enter the foreign exchange market to even out
"unwarranted" speculative fluctuations.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-45
65.
United States had large and growing trade deficit between 1980 and 1985. Despite
this, the value of U.S. dollar rose during this period. Which of the following is a
factor that caused this occurrence?
A. United States attracted heavy inflows of capital from foreign investors during
this period.
B. Banks in the United States offered low interest rates to investors during this
period.
C. Markets across the world witnessed strong economies during this period.
D. Developed countries in Europe maintained trade equilibrium and supplied
goods to underdeveloped countries.
A number of favorable factors overcame the unfavorable effect of a trade deficit.
Strong economic growth in the United States was one such factor. It attracted
heavy inflows of capital from foreign investors seeking high returns on capital
assets.
AACSB: Analytic
Blooms: Understand
66.
Which of the following is the reason why the current foreign-exchange system is
sometimes thought of as a managed-float system?
A. The exchange rates of a currency are determined by market forces.

B. Governments intervene frequently in the foreign exchange market.
C. Major currencies are allowed to freely float against each other.
D. Countries use a reference currency to estimate the value of their currencies.
High frequency of government intervention in the foreign exchange market
explains why the current system is sometimes thought of as a managed-float
system or a dirty-float system.
AACSB: Analytic
Blooms: Understand
11-46
67.
Which of the following arguments is in favor of floating exchange rates?
A. A country's ability to expand or contract its money supply should be limited by

the need to maintain exchange rate parity.
B. Maintaining balance of trade equilibrium is not in the best interest of a country.
C. Countries can isolate themselves from uncertainties when they trade using a
mutually agreed on exchange rate.
D. Governments can restore monetary control by removing the obligation to
maintain exchange rate parity.
to maintain exchange rate parity would restore monetary control to a government.
If a government faced with unemployment wanted to increase its money supply to
stimulate domestic demand and reduce unemployment, it could do so
unencumbered by the need to maintain its exchange rate.
AACSB: Analytic
Blooms: Understand
system.
68.
The monetary autonomy argument holds that ____.
A.
B.
C.
D.
each country should be allowed to choose its own inflation rate

inflation is beneficial to a country's economy and growth
inflation is detrimental to a country's economy and growth
countries should restrict inflation based on the global standards
its own inflation rate. This is called the monetary autonomy argument.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
11-47
69.
Which of the following arguments is against the use of fixed exchange rates?
A. Monetary discipline is the most important determinant of a strong economy.

B. Each country has the freedom to choose its own inflation rate.
C. Market speculation can cause fluctuations in exchange rates.
D. Governments are likely to expand the monetary supply far too rapidly due to
political pressures.
its own inflation rate. This is called the monetary autonomy argument.
AACSB: Analytic
Blooms: Understand
system.
70.
Which of the following arguments strengthen the idea of floating exchange rates?
A.
B.
C.
D.
External agencies should not interfere in the monetary policies of a country.

Trade deficits can be corrected through changes in exchange rates.
Changes in exchange rates will not impact the trade balance in a country.
Governments should act in ways to minimize the uncertainty in monetary
markets.
The supporters of floating exchange rates argue that floating rates can correct
trade deficit by making its exports cheaper and its imports more expensive. They
argue that exchange rate depreciation should correct the trade deficit.
AACSB: Analytic
Blooms: Understand
system.
11-48
71.
Those in favor of floating exchange rate claim that ____.
A. uncertainty in monetary markets dampens the growth of international trade

B. inflation is beneficial to a country if it is controlled closely
C. trade imbalances can be adjusted by using floating exchange rates
D. governments can have rigid control over monetary markets by using floating
rates
Those in favor of floating exchange rates argue that floating rates help adjust
trade imbalances.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
system.
72.
Which of the following is an exchange rate policy where the exchange rate is
determined completely by market forces?
A.
B.
C.
D.
Managed float
Fixed peg
Free float
Currency board
Governments around the world pursue a number of different exchange rate

policies. One such policy is a pure "free float" where the exchange rate is
determined by market forces.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-49
73.
Which of the following is the exchange rate policy where the government
intervenes in the exchange rate system only in a limited way?
A.
B.
C.
D.
Managed float
Fixed peg
Free float
Currency board
In a managed float system governments intervene in only a limited way. About 26

percent of IMF's members use this system.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
74.
Under a _____ exchange rate regime, a country will attach the value of its currency
to that of a major currency.
A.
B.
C.
D.
managed float
pegged
free float
currency board
Under a pegged exchange rate regime, a country will attach the value of its
currency to that of a major currency so that, for example, as the U.S. dollar rises in
value, its own currency rises too.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-50
75.
Which of the following statements is true of pegged exchange rates?
A. A pegged exchange rate allows a country's currency to be determined by

market forces.
B. A pegged exchange rate weakens the monetary discipline of a country.
C. Pegged exchange rates are popular among many of the world's smaller
nations.
D. Adopting a pegged exchange rate regime increases inflationary pressures in a
country.
to that of a major currency. Pegged exchange rates are popular among many of
the world's smaller nations.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
76.

domestic currency on demand into ____.
A.
B.
C.
D.
another currency at a fixed exchange rate

gold or silver at a fixed exchange rate
gold or silver at a floating exchange rate
another currency at a floating exchange rate

make this commitment credible, the currency board holds reserves of foreign
currency issued.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-51
77.
Under a currency board system, ____.
A.
B.
C.
D.
inflation rates are maintained at high level

countries issue domestic notes at will
interest rates remain constant
government lacks the ability to set interest rates
Under a currency board system, government lacks the ability to set interest rates.
Interest rates in Hong Kong, for example, are effectively set by the U.S. Federal
Reserve.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
78.
A currency crisis occurs due to ____.
A.
B.
C.
D.
the loss of confidence in a country's banking system

heavy foreign debt obligations
high levels of trade deficit
a speculative attack on the exchange value

increase interest rates to defend the prevailing exchange rate.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
11-52
79.
Moral hazard arises when people behave recklessly because ____.
A.
B.
C.
D.
of the restrictions that exist in a country's monetary policy

of the restrictions that IMF has imposed on them
they know they will be saved if things go wrong
they face financial difficulties arising out of external factors
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
80.
Which of the following is a common criticism against IMF?
A.
B.
C.
D.
IMF lacks any real mechanism for accountability.

It is hesitant to help banks when they are in crisis.
IMF has not intervened to resolve the Asian crisis.
It did not try to resolve the Mexican currency crisis.
One criticism of the IMF is that it has become too powerful for an institution that
lacks any real mechanism for accountability.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
11-53
81.
Which of the following is NOT a characteristic of a foreign debt crisis?
A.
B.
C.
D.
Widening current account deficit

Excessive expansion of domestic borrowing
Low relative price inflation rates
Asset price inflation
Foreign debt crises tend to have common underlying macroeconomic causes: high
relative price inflation rates, a widening current account deficit, excessive
expansion of domestic borrowing, high government deficits, and asset price
inflation (such as sharp increases in stock and property prices).
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
financial crises.
82.
Which of the following observations is true of the current system of foreign

exchange market?
A. Most of the currencies can be converted to gold in the current system of foreign
exchange.
B.
The current system is driven by fixed exchange rates.
C. Currencies float freely against others in the current system.
D. The current system is a combination of government intervention and
speculative activity.
The current system of foreign exchange is a mixed system in which a combination
of government intervention and speculative activity can drive the foreign
exchange market.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-54
83.
Which of the following will help a company hedge against currency fluctuations?
A.
B.
C.
D.
Finding a large supplier to supply all the raw materials

In-house manufacturing of raw materials
Basing business in a single country
Dispersing production to different geographic locations
Maintaining strategic flexibility can take the form of dispersing production to

different locations around the globe as a real hedge against currency fluctuations.
AACSB: Analytic
Blooms: Understand
84.
Contracting out manufacturing allows companies to reduce economic exposure

because ____.
A. having multiple suppliers attracts subsidies from government

B. it reduces the pressure on them to maintain a trade surplus
C. it allows companies to shift suppliers from country to country
D. quality issues are insignificant when manufacturing is contracted to others
One way of building strategic flexibility and reducing economic exposure involves
contracting out manufacturing. This allows a company to shift suppliers from
country to country in response to changes in relative costs brought about by
exchange rate movements.
AACSB: Analytic
Blooms: Understand
11-55
85.
Increasingly the _____ has been acting as macroeconomic police of the world
economy, insisting that countries seeking significant borrowings adopt certain
macroeconomic policies.
A.
B.
C.
D.
ECOSOC
IMF
UN
World Bank
Increasingly the IMF has been acting as macroeconomic police of the world
economy, insisting that countries seeking significant borrowings adopt IMFmandated macroeconomic policies.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Essay Questions
86.
What is international monetary system? What are the major trading currencies?

govern exchange rates. The four major trading currencies are the U.S. dollar, the
European Union's euro, the Japanese yen, and the British pound.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
Topic: Introduction
11-56
87.
Explain the floating exchange rate regime. Give examples.
When the foreign exchange market determines the relative value of a currency,
the country is adhering to a floating exchange rate system. The world's four major
trading currencies, the Japanese yen, the U.S. dollar, the British pound, and the
European Union's euro are all free to float against each other. Consequently, their
exchange rates are determined by market forces and fluctuate against each other
daily.
AACSB: Analytic
Blooms: Understand
Topic: Introduction
88.
Compare and contrast a pegged exchange system with a dirty float system of
exchange rates.
exchange rate. Some countries, while not adopting a formal pegged rate, try to
hold the value of their currency within some range against an important reference
currency such as the U.S. dollar, or a "basket" of currencies. This is referred to as a
dirty float.
AACSB: Analytic
Blooms: Understand
Topic: Introduction
89.
How does a fixed exchange rate system work?
In a fixed exchange rate system, the values of a set of currencies are fixed against
each other at some mutually agreed upon exchange rate. Prior to the introduction
of the euro, many EU countries participated in a fixed exchange rate system.
AACSB: Analytic
Blooms: Understand
Topic: Introduction
11-57
90.
What is gold standard? What was the major advantage of the system?

Because each currency was linked to gold under the system, it was easy to
determine the value of any currency in units of any other currency.
The great strength claimed for the gold standard was that it contained a powerful
mechanism for achieving balance-of-trade equilibrium by all countries.
AACSB: Analytic
Blooms: Understand
91.
With the help of an example, explain how balance-of-trade equilibrium is

maintained under the gold standard.
A country is in balance-of-trade equilibrium when the income its residents earn

from exports is equal to the money its residents pay to other countries for imports
(the current account of its balance of payments is in balance). Under the gold
standard, when Japan has a trade surplus, there will be a net flow of gold from the
U.S. to Japan. These gold flows automatically reduce the U.S. money supply and
swell Japan's money supply. An increase in money supply will raise prices in Japan,
while a decrease in the U.S. money supply will push U.S. prices downward. The rise
in the price of Japanese goods will decrease demand for these goods, while the fall
in the prices of U.S. goods will increase demand for these goods. Thus, Japan will
start to buy more from the U.S., and the U.S. will buy less from Japan, until a
balance-of-trade equilibrium is achieved.
AACSB: Analytic
Blooms: Understand
11-58
92.
What is the Bretton Woods agreement? How was it different from the gold
standard?
The Bretton Woods agreement, signed in 1944, called for a system of fixed
exchange rates whereby countries would fix the value of their currency to gold.
Unlike the gold standard, countries were not required to exchange their currencies
for gold. Instead, only the dollar remained convertible to gold, and each country
decided what its exchange rate relative to the dollar was to be and then calculated
the gold par value of the currency based on that selected dollar exchange rate. All
participating countries agreed to try to maintain the value of their currencies
within 1 percent of the par value by intervening in the market as necessary.
AACSB: Analytic
Blooms: Understand
system.
93.
Identify the multinational institutions that were established at the Bretton Woods
agreement. What were their roles in the international monetary system?
At the Bretton Woods meeting in 1944, two multinational institutions, the

International Monetary Fund (IMF) and the World Bank, were established. The IMF
was established to maintain order in the international monetary system. The IMF
sought to achieve this goal through a combination of discipline and flexibility. The
World Bank, also known as the International Bank for Reconstruction and
Development, was established to help the war-torn economies of Europe rebuild.
However, the World Bank soon turned its attention to providing assistance to other
countries, particularly Third World countries.
AACSB: Analytic
Blooms: Understand
system.
11-59
94.
Explain the events that led to the failure of the Bretton Woods system.
The Bretton Woods system started to fall apart in the late 1960s, and finally
collapsed in 1973. The system fell apart because the U.S. dollar, which played a
central role in the regime, was being pressured to devalue. To finance both the
Vietnam conflict and his welfare programs, President Lyndon Johnson backed an
increase in U.S. government spending that was not financed by an increase in
taxes. Instead, it was financed by an increase in the money supply, which led to a
rise in price inflation from less than 4 percent in 1966 to close to 9 percent by
1968.
The increase in inflation and the worsening of the U.S. foreign trade position gave
rise to speculation in the foreign exchange market that the dollar would be
devalued. Things came to a head in the spring of 1971 when U.S. trade figures
showed that for the first time since 1945, the United States was importing more
than it was exporting.
Then President, Nixon finally announced in 1971 that the dollar was no longer
convertible to gold, and that a 10 percent tariff would remain in effect until all
trading partners agreed to revalue their currencies relative to the dollar. Even after
this move and a subsequent revaluation of currencies relative to the dollar,
speculation continued that dollar would be further devalued until at last,
currencies were allowed to float freely, and the fixed exchange rate system ended.
AACSB: Analytic
Blooms: Understand
95.
Discuss the significance of the Jamaica Agreement.
The 1976 Jamaica Agreement formalized the floating exchange rate regime that
followed the collapse of Bretton Woods. The agreement established the rules for
the international monetary system that are in place today. Under the agreement,
floating rates were declared to be acceptable, gold was abandoned as a reserve
asset, and total annual IMF quotas were increased. Under the Jamaica Agreement,
the IMF continued in its role of helping countries cope with macroeconomic and
exchange rate problems.
AACSB: Analytic
Blooms: Understand
11-60
96.
Discuss the arguments that favor a floating exchange rate system against a fixed
exchange rate system.
There are two main elements in the case for floating exchange rates: monetary
policy autonomy and automatic trade balance adjustments. Under a fixed
exchange rate system, a country's ability to expand or contract its money supply is
limited by the need to maintain exchange rate parity. Under a floating exchange
rate system, however, monetary control is restored to the government enabling a
government to pursue domestic polices that involve expanding or contracting the
money supply without worrying about maintaining exchange rate parity. Similarly,
a floating exchange rate system a country can correct a trade imbalance through
currency adjustments, a practice that is impossible under a fixed rate system.
AACSB: Analytic
Blooms: Understand
system.
97.
Present the common arguments that favor fixed exchange rates.
The case for fixed exchange rates revolves around arguments about monetary
discipline, speculation, uncertainty, and the lack of connection between the trade
balance and exchange rates. Supporters of a fixed exchange rate system suggest
that the monetary discipline required by a fixed exchange rate system allows a
government to ignore political pressures that might result in a rapid expansion of
the money supply and high inflation.
Advocates of fixed exchange rates argue that the system limits the destabilizing
effects of speculation. Similarly, because the fixed rate system is more predictable,
according to supporters, international trade and investment will be encouraged.
Finally, advocates of fixed exchange rates suggest that trade deficits are
determined by the balance between savings and investment in a country, not by
the external value of its currency. Therefore, the need for floating exchange rates
to correct trade imbalances is not valid.
AACSB: Analytic
Blooms: Understand
system.
11-61
98.
Describe the different exchange rate policies that are in practice today.
Governments around the world pursue a number of different exchange rate

policies. These range from a pure "free float" where the exchange rate is
determined by market forces to a pegged system that has some aspects of the
pre-1973 Bretton Woods system of fixed exchange rates. Some 14 percent of the
IMF's members allow their currency to float freely. Another 26 percent intervene in
only a limited way (the so-called managed float). A further 22 percent of IMF
members now have no separate legal tender of their own.
The remaining countries use more inflexible systems, including a fixed peg
arrangement (28 percent) under which they peg their currencies to other
currencies, such as the U.S. dollar or the euro, or to a basket of currencies. Other
countries have adopted a system under which their exchange rate is allowed to
fluctuate against other currencies within a target zone (an adjustable peg system).
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
99.
Discuss the pegged exchange rate regime.
to that of a major currency so that, for example, as the U.S. dollar rises in value, its
own currency rises too. Pegged exchange rates are popular among many of the
world's smaller nations. As with a full fixed exchange rate regime, the great virtue
claimed for a pegged exchange rate is that it imposes monetary discipline on a
country and leads to low inflation.
AACSB: Analytic
Blooms: Remember
Difficulty: 1 Easy
11-62
100. What is a currency board? Why do countries choose this type of system? What are
the disadvantages of this type of arrangement?

make the commitment credible, the currency board holds reserves of foreign
currency issued. The system is attractive because it limits the ability of the
government to print money, and thereby create inflationary pressure. Under a
strict currency board, interest rates will adjust automatically. However, critics point
out that if local inflation rates remain higher than the inflation rate in the country
to which the currency is pegged, the currencies of countries with currency boards
can become uncompetitive and overvalued. Also, the system does not permit
governments to set interest rates.
AACSB: Analytic
Blooms: Understand
101. Compare currency crisis, banking crisis, and foreign debt crisis.

increase interest rates to defend the prevailing exchange rate. In contrast, a
banking crisis refers to a loss of confidence in the banking system that leads to a
run on banks as individuals and companies withdraw their deposits. Finally, a
foreign debt crisis is a situation in which a country cannot service its foreign debt
obligations, whether private sector or government debt.
These crises tend to have common underlying macroeconomic causes: high
relative price inflation rates, a widening current account deficit, excessive
expansion of domestic borrowing, and asset price inflation (such as sharp
increases in stock and property prices).
AACSB: Analytic
Blooms: Understand
financial crises.
11-63
102. Recent policies of the IMF have drawn a lot of criticism. Discuss these criticisms.
The IMFs policies designed to cool overheated economies by reining in inflation

and reducing government spending have been highly criticized. One criticism is
that the IMF's "one-size-fits-all" approach to macroeconomic policy is inappropriate
for many countries. The IMF has also been accused of intensifying moral hazard
through its rescue packages. Finally, it has been suggested that the IMF has
become too powerful for an institution that lacks any real mechanism for
accountability.
AACSB: Analytic
Blooms: Understand
financial crises.
103. Discuss the criticism that IMF is exacerbating a problem called moral hazard.
be saved if things go wrong. The IMF has been criticized for exacerbating moral
hazard with its rescue programs. According to critics, many Japanese and Western
banks made loans to overleveraged Asian companies during the 1990s, and should
now be forced to pay the price for their actions. Instead, the IMF, through its
rescue package, is reducing the probability of debt default and effectively bailing
out the banks.
AACSB: Analytic
Blooms: Understand
financial crises.
11-64
104. How can international companies reduce their economic exposure in a world of
constantly fluctuating exchange rates?
For companies operating in a world of volatile exchange rates, it is important to

pursue strategies that reduce the economic exposure of the firm. One way to
maintain strategic flexibility is to disperse production to different locations around
the globe. This strategy allows companies to hedge currency fluctuations.
Companies can also build strategic flexibility by contracting out their
manufacturing. This strategy allows a company to shift suppliers from country to
country in response to changes in relative costs brought about by exchange rate
movements. Finally, companies should be aware of IMF macroeconomic policies
that might affect their operations. IMF policies often result in a sharp contraction in
demand in the short run, and an expansion of demand in the long run. Companies
need to follow the IMF policies and adjust their strategies accordingly.
AACSB: Analytic
Blooms: Understand
105. Do you think businesses can influence government policies? Explain your answer.
As major players in the international trade and investment environment,

businesses can influence government policy toward the international monetary
system. For example, intense government lobbying by U.S. exporters helped
convince the U.S. government that intervention in the foreign exchange market
was necessary. With this in mind, business can and should use its influence to
promote an international monetary system that facilitates the growth of
international trade and investment. Student answers will vary for this question.
AACSB: Analytic
Blooms: Analyze
Difficulty: 3 Hard
11-65

Chap 011

Загружено:

Сведения о документе

Оригинальное название

Авторское право

Доступные форматы

Поделиться этим документом

Поделиться или встроить документ

Параметры публикации

Этот документ был вам полезен?

Это неприемлемый материал?

Авторское право:

Доступные форматы

Chap 011

Загружено:

Авторское право:

Доступные форматы

Chapter 11

The International Monetary System

True / False Questions

1. The international monetary system refers to the institutional arrangements that

6. A country is said to be in balance-of-trade equilibrium when it produces all the goods

7. The agreement reached at Bretton Woods established the International Monetary

39. The current system of foreign exchange is a mixed system of government

Multiple Choice Questions

currency board exchange

fixed against other currencies based on an agreement

48. A dirty float refers to a situation in which ____.

fixed exchange rate

50. Which of the following statements is true of the Gold standard?

51. Gold par value refers to the ____.

ratio of price of gold in a currency to price of gold in U.S. dollars

52. A country is said to be in balance-of-trade equilibrium when ____.

its exports are more than its imports

54. Which of the following is an advantage of using the gold standard?

International Monetary Fund

establish an international monetary system

A. Imports will become less attractive in that country.

A. It is likely to create high unemployment in some cases.

61. Which of the following is a function of World Bank?

Implementing a rigid fixed exchange rate regime

Worsening of Great Britain's balance of trade

IMF members were permitted to use Dollar as the convertible currency.

The exchange rates of a currency are determined by market forces.

67. Which of the following arguments is in favor of floating exchange rates?

each country should be allowed to choose its own inflation rate

A. Monetary discipline is the most important determinant of a strong economy.

External agencies should not interfere in the monetary policies of a country.

71. Those in favor of floating exchange rate claim that ____.

uncertainty in monetary markets dampens the growth of international trade

75. Which of the following statements is true of pegged exchange rates?

A. A pegged exchange rate allows a country's currency to be determined by market

another currency at a fixed exchange rate

77. Under a currency board system, ____.

inflation rates are maintained at high level

78. A currency crisis occurs due to ____.

the loss of confidence in a country's banking system

A. of the restrictions that exist in a country's monetary policy

IMF lacks any real mechanism for accountability.

81. Which of the following is NOT a characteristic of a foreign debt crisis?

Widening current account deficit

Finding a large supplier to supply all the raw materials

84. Contracting out manufacturing allows companies to reduce economic exposure

having multiple suppliers attracts subsidies from government

87. Explain the floating exchange rate regime. Give examples.

89. How does a fixed exchange rate system work?

95. Discuss the significance of the Jamaica Agreement.

99. Discuss the pegged exchange rate regime.

Chapter 11 The International Monetary System Answer Key

True / False Questions

The international monetary system refers to the institutional arrangements that

A pegged exchange rate means the value of a currency is fixed relative to a

A country is said to be in balance-of-trade equilibrium when it produces all the

The agreement reached at Bretton Woods established the International Monetary

Implementing a fixed exchange rate regime increases the price inflation in

IDA loans receive direct funding from the World Bank.

The monetary autonomy argument is supported by the advocates of fixed

Fixed exchange rates lead to speculation and uncertainty in the value of

A country valuates its currency without attaching it to a reference currency under

Adopting a pegged exchange rate regime increases the inflationary pressures in a