The national government increases spending and lowers taxes in an effort to rais
ID: 1188681 • Letter: T
Question
The national government increases spending and lowers taxes in an effort to raise RGDP and lower the unemployment rate. However, the budget deficit is increased, so the treasury borrows funds to finance the higher deficit. The country has fixed exchange rates with the US dollar which the central bank maintains through aggressive intervention in the foreign exchange market.
a) If capital mobility is high, the domestic currency will (appreciate or depreciate). The central bank must purchase (dollars or pesos) to maintain the fixed exchange rate. This effect will (support or counter) the goal of stimulating the nation’s economy.
b) The Impossible Trinity holds that a nation can achieve any 2 of 3 goals. List the 3 goals:
Explanation / Answer
The national government increases spending and lowers taxes in an effort to raise RGDP and lower the unemployment rate. However, the budget deficit is increased, so the treasury borrows funds to finance the higher deficit. The country has fixed exchange rates with the US dollar which the central bank maintains through aggressive intervention in the foreign exchange market.
a) If capital mobility is high, the domestic currency will appreciate. The central bank must purchase dollars to maintain the fixed exchange rate. This effect will counter the goal of stimulating the nation’s economy.
b) The 3 goals of impossble trinity is:
According to impossible trinity it is impossible for a nation to achieve these three goals simultaneously.