Question

In a small open economy with a floating exchange rate, if the government increases the money supply, then in the new short-run equilibrium the:

Answer 1

Answer: The correct answer is : the exchange rate will increase, but the income will remain unchanged.

Explanation: Under a floating system, the exchange rate fluctuates in response to changing economic conditions. Under these same conditions but if the government decreases the money supply, in the new short-term equilibrium income falls and the exchange rate increases.