Question: Suppose that there is a cost to carrying out transactions
Suppose that there is a cost to carrying out transactions in the foreign exchange market. That is, to purchase one unit of foreign currency requires e(1 + a) units of domestic currency, where e is the nominal exchange rate and a is a proportional fee. Suppose that a decreases. What will be the equilibrium effects under a flexible exchange rate regime, and under a fixed exchange rate regime? Explain your results.
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