Question : Which of the following is a potential disadvantage of a fixed exchange rate system?
Option 1: Higher inflation rates
Option 2: Currency fluctuations
Option 3: Uncertainty in trade balances
Option 4: Speculative attacks on the currency
Correct Answer: Speculative attacks on the currency
Solution : The correct answer is d) Speculative attacks on the currency
A potential disadvantage of a fixed exchange rate system is the vulnerability to speculative attacks on the currency. When a country's currency is fixed to another currency or a specific value, it can become a target for speculators who believe the fixed rate is overvalued or unsustainable.
Speculative attacks involve investors or traders taking positions to sell the fixed currency in anticipation of a devaluation or a shift in the exchange rate regime. These attacks can put pressure on the central bank's reserves and may lead to a loss of confidence in the fixed exchange rate system.
However, it's important to note that a fixed exchange rate system may have other potential disadvantages, such as limited flexibility in adjusting to economic shocks, the need for significant foreign exchange reserves to defend the fixed rate, and potential constraints on independent monetary policy.
Question : What is the primary advantage of a floating exchange rate system?
Option 1: Stability in currency values
Option 2: Fixed exchange rates
Option 3: Flexibility in adjusting to market forces
Option 4: Controlled inflation rates
Question : In a floating exchange rate system, the exchange rate is determined by market forces, and fluctuations in the rate are caused by changes in ________.
Option 1: government policies
Option 2: inflation rates
Option 3: interest rates
Option 4: supply and demand
Question : The real exchange rate is a measure of:
Option 1: Purchasing power of one currency relative to another.
Option 2: Exchange rate fluctuations in the short term.
Option 3: The value of a currency in terms of gold.
Option 4: Speculative movements in the foreign exchange market.
Question : What term is used to describe the situation when a country's currency value is fixed to another currency or a basket of currencies?
Option 1: Floating exchange rate.
Option 2: Managed float system.
Option 3: Fixed exchange rate.
Option 4: Pegged exchange rate.
Question : It refers to a system in which exchange rate of a currency is fixed by the government.
Option 1: Fixed exchange rate system
Option 2: Flexible exchange rate system
Option 3: Managed floating rate system
Option 4: None of the above.
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