Under Fixed Exchange Rates, suppose the government imposes restrictions on imports, under Mundell-Fleming Model, which option is not correct?A.IS* curve shifts to the rightB.IS curve cannot shift because it's under fixed exchange rateC.Y increases at the endD.the money supply increases
Question
Under Fixed Exchange Rates, suppose the government imposes restrictions on imports, under Mundell-Fleming Model, which option is not correct?A.IS* curve shifts to the rightB.IS curve cannot shift because it's under fixed exchange rateC.Y increases at the endD.the money supply increases
Solution
The option that is not correct under the Mundell-Fleming Model when the government imposes restrictions on imports under Fixed Exchange Rates is B. "IS curve cannot shift because it's under fixed exchange rate".
Here's why:
A. "IS* curve shifts to the right" - This is correct. When the government imposes import restrictions, domestic demand for goods and services increases because imported goods become more expensive or unavailable. This increase in demand shifts the IS* curve to the right.
B. "IS curve cannot shift because it's under fixed exchange rate" - This is incorrect. The IS curve can shift under a fixed exchange rate system. The IS curve represents all combinations of the interest rate and level of income at which the goods market (i.e., the market for domestically produced goods and services) is in equilibrium. It can shift due to any policy or event that changes the relationship between the interest rate and income, such as fiscal policy or changes in business confidence.
C. "Y increases at the end" - This is correct. When the IS* curve shifts to the right, it means that at any given interest rate, a higher level of income is needed to bring the goods market into equilibrium. Therefore, income (Y) increases.
D. "the money supply increases" - This can be correct. Under a fixed exchange rate system, the central bank may need to increase the money supply to prevent the exchange rate from appreciating (i.e., becoming more expensive in terms of foreign currency) when the IS* curve shifts to the right. However, this depends on the specifics of the situation and the central bank's policy response.
Similar Questions
Which of the following statements about the Mundell-Fleming model is incorrect？A.Under a floating exchange rate regime, capital is fully mobile and expansionary fiscal spending reduces the country's net exports by an equivalent amount.B.If price level changes are allowed, the AD-AS model should be used to analyse the effectiveness of fiscal and monetary policies.C.Under a fixed exchange rate regime, capital is completely immobile and expansionary monetary policy leads to a drain on foreign exchange reserves.D.Under a fixed exchange rate regime, an expansion of fiscal policy leads to an increase in the money supply.
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