Question

if the government of colombia implemented a policy that reduced national saving, which statement would best predict the consequences? a. its real exchange rate would depreciate, and colombian net exports would rise. b. its real exchange rate would depreciate, and colombian net exports would fall. c. its real exchange rate would appreciate, and colombian net exports would rise. d. its real exchange rate would appreciate, and colombian net exports would fall.

Answer 1

A contractionary monetary policy, by driving up interest rates, causes the currency to appreciate, reducing exports and increasing imports. This results in a fall in net exports and aggregate demand, leading to a decrease in GDP.

Step-by-step explanation:

A contractionary monetary policy, by driving up domestic interest rates, would cause the currency to appreciate. The higher value of the currency in foreign exchange markets would reduce exports, since from the perspective of foreign buyers, they are now more expensive. The higher value of the currency would similarly stimulate imports, since they would now be cheaper from the perspective of domestic buyers. Lower exports and higher imports cause net exports (EX - IM) to fall, which causes aggregate demand to fall. The result would be a decrease in GDP working through the exchange rate mechanism reinforcing the effect contractionary monetary policy has on domestic investment expenditure.