Chapter 10: The International Monetary System

Multiple Choice Questions

1. The sole purpose of the international monetary system is to a) maximize the profits of MNCs. b)protect the rights of home countries of MNCs. c)protect the rights of host countries of MNCs. d)control and regulate the currencies of countries. e)facilitate international economic exchange.

Answer: e

2.An exchange-rate system is a set of rules governing how much currencies in the foreign exchange market can a)rise or fall in value. b)be traded for imports. c)be traded for exports. d)be used to make debt payments. e)be regulated by the IMF.

Answer: a

3.The most important feature of a fixed exchange-rate system is that a)markets establish the values for currencies. b)central banks establish the values for their currencies. c)governments establish the values for gold and silver. d)governments establish the fixed values for their currencies. e)governments buy and sell their currencies.

Answer: d

4.The most important feature of a floating exchange-rate system is that a)markets establish the values for currencies. b)central banks establish the values for their currencies. c)governments establish the values for gold and silver. d)governments establish the fixed values for their currencies. e)governments buy and sell their currencies.

Answer: a

5.In a managed float exchange-rate system a)governments commit themselves to maintaining a specific fixed price against other currencies b)governments allow their currencies to float freely. c)governments intervene in the foreign exchange market to influence the value of their currency. d)currency speculation is prohibited. e)governments only change the value of their currency very rarely.

Answer: c a)The trade account b)The service account c)The income account d)The expense account e)Unilateral transfers account

6.The current account of the balance of payments accounting system has several subcategories. Which of the following is not one of those subcategories?

Answer: d

7.The trade in goods subcategory of the balance of payments current account system registers a)imports and exports of manufacturing and agricultural products. b)imports and exports of service sector activities. c)payments such as royalties, interest payments and profits. d)remittances, gifts and foreign aid. e)direct foreign investment.

Answer: a

8.Imports and exports of activities such as banking, insurance, transportation and tourism are registered in the a)the trade account. b)the service account. c)the income account. d)the expense account. e)unilateral transfers account.

Answer: b

9.The income subcategory of the balance of payments current account system registers a)imports and exports of manufacturing and agricultural products. b)imports and exports of service sector activities. c)payments such as royalties, interest payments and profits. d)remittances, gifts and foreign aid. e)direct foreign investment.

Answer: c

10.The current account records a)direct foreign investment transactions between American residents and the rest of the world. b)all current (nonfinancial) transactions between American residents and the rest of the world. c)imports and exports transactions between American residents and the rest of the world. d)capital flows between the United States and the rest of the world. e)all of the money spent on goods and services and on investments in factories and houses.

Answer: b a)Total US Owned Assets Abroad b)Foreign assets in the United States c)Balance of Trade d)Balance on Capital Account e)Overall Balance (statistical adjustment)

11. The capital account of the balance of payments accounting system registers the financial flows between the United States and the rest of the world. Which of the following is not one of its subcategories?

Answer: c

12.In the balance of payments accounting system, if a country a)has a current account deficit, it must have a capital account surplus. b)has a current account deficit, it must have a capital account deficit. c)has a current account surplus, it must have a capital account surplus. d)has a capital account deficit, it must have a current account deficit. e)has a capital account surplus, it must have a current account surplus.

Answer: a

13.According to the Oatley book, the balance of payments current account in the United States for 2020 was a)a surplus of $767.8 billion. b)a deficit of $615 billion. c)a deficit of $1.289 trillion. d)a surplus of $2.057 trillion. e)a deficit of $733.0 billion.

Answer: b

14.Balance-of-payments adjustments a)in a fixed exchange system, intervention does not change the money supply. b)in a fixed exchange system, intervention changes the money supply. c)in a fixed exchange system, does not change the relative prices of imports and exports between two trading countries. d)in a floating exchange system, does not change through exchange-rate movements. e)in a floating exchange system, internal prices do not remain stable.

Answer: b

15.If a government is unwilling to accept occasional deflation and inflation caused by balance of payments adjustments, a)it cannot maintain a fixed exchange rate system. b)it must maintain a fixed exchange system. c)it can both stabilize exchange rates and domestic prices at the same time. d)it cannot trade with other countries. e)it cannot maintain a floating exchange system.

Answer: a

16.The gold standard emerged at the center of the international monetary system during the a)1790s. b)1830s. c)1870s. d)1910s. e)1940s.

Answer: c

17.Between 1834 and 1933 the U.S. government exchanged dollar notes for gold at the rate of a)$11.77 per ounce b)$15.88 per ounce. c)$20.67 per ounce d)$22.11 per ounce e)$27.05 per ounce.

Answer: c

18.The Bretton Woods system a)represented the first time that governments explicitly made exchange rates a matter of international cooperation. b)was a form of floating exchange rates. c)was not fully implemented until 1949. d)was an attempt to limit domestic economic autonomy after WW II. e)was unsuccessful at establishing exchange rate stability in spite of rapid growth in international trade after WW II.

Answer: a

19.The emergence of political constraints on domestic adjustment after WW II a)mandated a return to rigidly fixed exchange rates. b)mandated a return to successful floating rates from the 1930s. c)was not influenced by the emergence of mass-based democracies. d)ruled out a return to rigidly fixed exchange rates. e)weakened the gold standard during a fundamental exchange disequilibrium.

Answer: d

20. Exchange restrictions are government regulations that a)require substantial domestic adjustments that governments are unwilling to accept. b)allow a central bank to establish a monopoly on foreign exchange. c)in the 1930s allowed governments to maximize capital flows. d)Americans wanted to restore after WW II to liberalize international capital markets. e)were used by the IMF to disallow residents to convert domestic currency into foreign currencies to settle current-account transactions.

Answer: b

21.The IMF was intended to limit two kinds of behavior: a)competitive devaluations and abuse of the stabilization fund. b)competitive revaluations and exchange restrictions. c)abuse of the gold standard and conditionality agreements. d)exchange restrictions and conditionality agreements. e)competitive devaluations and conditionality agreements.

Answer: a

22. According to Oatley, the American dollar became the post WWII’s foreign exchange system’s reserve currency a)at the insistence of American MNCs. b)as an unintended consequence of the Bretton Woods system. c)as an intended consequence of the Bretton Woods system. d)at the insistence of the IMF. e)because of the inability of the US government to exchange dollars for gold.

Answer: b

23.According to Oatley, the fundamental cause of collapse of the Bretton Woods international monetary system was a)dollar overhang. b)unfair advantages of the dollar as the reserve currency. c)unstable gold prices. d)speculative attacks on weak currencies. e) governments’ unwillingness to accept the domestic costs of balance-of payments adjustments.

Answer: e

24.According to Oatley, the world currently has a floating exchange rate system because a)markets are recognized as the best means of establishing values of currencies. b)of government corruption that accompanied the timing of dramatic devaluations in a fixed system. c)the Smithsonian realignments solved the problem of economic imbalances. d)of political unwillingness to accept the domestic costs imposed by fixed exchange rates. e)it solved the inflationary problems caused by oil being priced in US dollars. Answer: d

25. The postwar attempt to create an international monetary system that provided exchange-rate stability and domestic economic autonomy was ultimately unsuccessful. The main reason for its failure is not: a)that the system was undermined by dollar overhang. b) that it was destroyed by the speculative attacks that ultimately forced governments to abandon fixed exchange rates. c) that to sustain fixed exchange rates, governments had to accept the domestic costs of balance-of-payments adjustment. d) thattheUnited States wasunwillingtoaccepttheunemploymentthatwould have arisen from eliminating its deficit. e) that Germany was willing to accept the higher inflation required to eliminate its surplus.

Answer: e

True-False Questions

1.Most countries have national currencies that are generally accepted as legal payment outside their borders.

Answer: False

2.According to Oatley, the international monetary system requires governments to choose between currency stability and national economic autonomy.

Answer: True

3.In a pure floating exchange-rate system governments engage in foreign exchange market intervention to influence the value of their currency.

Answer: False

4.Fixed exchange-rates provide exchange rate stability but they also prevent governments from using monetary policy to manage domestic economic activity.

Answer: True

5.In floating exchange rate systems, balance of payments adjustment occurs through changes in domestic money supply.

Answer: False

6.The Bretton Woods system represented the first time that governments explicitly made exchange rates a matter of international cooperation.

Answer: True

7.The IMF was created to limit competitive devaluations and currency speculation.

Answer: False

8. Because the dollar served as the Bretton Woods system’s primary reserve asset, reducing the number of dollars circulating in the global economy would reduce the liquidity that financed world trade.

Answer: True

9.The Smithsonian realignment solved both the economic imbalances and the political conflicts that were the cause of the Bretton Woods system’s weakening.

Answer: False

10. The shift to floating exchange rates reflected agreement among governments that the international monetary system would perform better under floating rates than under fixed rates.

Answer: False

Essay/Discussion Questions

1. Why do we live in a world where currencies are so unstable?

2.Explain the differences between fixed and floating currency exchange systems. Which is better?

3. What are “balance of payment” devices? How are adjustments made under fixed and floating systems?

4.Why has the United States run such a consistent balance of payments deficit with some countries and a surplus with others? Illustrate your answer with examples of each type.

5.What political reasons explain why most governments prefer domestic price stability over exchange rate stability?

6.Explain each of the four innovations introduced by the Bretton Woods system.

7.How does the IMF stabilization fund work?

8. What is “dollar overhang” and how did it threaten the stability of the Bretton Woods system?

9.What were the three policy options for governments to resolve the payments imbalances that worsened with the onset of the war in Vietnam in 1965?

10. What are the pros and cons of U.S. pressure on Asia to implement the domestic policies required to reduce the size of their current-account surpluses? How and why will Asia continue to resist these pressures?