Question

In a small open economy with a fixed exchange rate, if the central bank tries to increase the money supply, then in the new short-run equilibrium?

Answer 1

Income will remain constant in the new short-run equilibrium.

What are small open economies and fixed exchange rates?

1. A small open economy (SOE) is an economy that participates in international trade but is small enough in comparison to its trading partners that its policies have no effect on global prices, interest rates, or revenue.
2. A fixed exchange rate, also known as a pegged exchange rate, is a type of exchange rate regime in which a monetary authority fixes or pegs the value of one currency against the value of another currency, a basket of currencies, or another measure of worth, such as gold.

Relation between app open economy and fixed exchange rates:

• A fixed exchange rate aids in the easy transfer of funds from one country to another.
• It aids smaller and developing countries in attracting foreign investment.

• If the central bank attempts to expand the money supply in a small open economy with a fixed exchange rate, income will remain constant in the new short-run equilibrium.

Therefore, income will remain constant in the new short-run equilibrium.

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