8. Bretton Woods Aa Aa Suppose that after World War II, Canada and Great Britain

Question

8. Bretton Woods Aa Aa Suppose that after World War II, Canada and Great Britain agree to peg their currencies to each other under the Bretton Woods system at an exchange rate of $2 per pound. Suppose Canadian demand for pounds increases, and the equilibrium dollar price of a pound rises to $3 per pound. Which of the following actions could the Canadian government use under Bretton Woods to help eliminate the balance-of-payments imbalance at the pegged exchange rate? O Use monetary policy to lower real interest rates in Canada. O Use official reserves of pounds to buy dollars in the foreign exchange market. O Exchange dollars for pounds in order to buy gold from Great Britain.

Explanation / Answer

Use official reserves of pounds to buy dollar in foreign exchange market .

Due to increase in demand for pound the central bank will intervene in foreign exchange market to buy dollar and sell pounds. Thus stabilizing the exchange rate.

Option 1 is incorrect because with fixed exchange rate monetary policy is i effective .

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