Question

Under a flexible exchange rate system, which of the following variables do monetary policy affect?

1) Interest rates
2) Exchange rates
3) Inflation rates
4) All of the above

Answer 1

Monetary policy affects interest rates, exchange rates, and inflation rates under a flexible exchange rate system.

Step-by-step explanation:

Under a flexible exchange rate system, monetary policy affects all of the above: interest rates, exchange rates, and inflation rates.

Monetary policy refers to the actions taken by a country's central bank to influence the supply of money and credit in the economy. In a flexible exchange rate system, where the value of a country's currency is determined by market forces, changes in monetary policy can have an impact on various variables.

For example:

• Interest rates: By adjusting the interest rates, the central bank can influence borrowing costs, which in turn affects consumer spending, investment, and economic growth.
• Exchange rates: Changes in monetary policy can lead to changes in interest rates, which can affect the demand for a country's currency in the foreign exchange market. This, in turn, can impact the exchange rate.
• Inflation rates: Monetary policy plays a crucial role in controlling inflation. By adjusting interest rates and managing the money supply, the central bank can influence the level of inflation in the economy.