1.For an open economy with high capital mobility and fixed exchange rates, explain why an expansionary fiscal policy would be more successful in stimulating the economy, and why an expansionary monetary policy would be less successful, compared with a closed economy.

2.Explain the basic difference between expenditure-switching and expenditure-changing policies. Why are expenditure-switching policies more effective in restoring external balance, and expenditure-changing policies better for restoring internal balance?

3.Suppose that a nation had an economy operating at full employment but with a large current-account deficit. Explain how a combination of expenditure-switching and expenditure-reducing policies might be required to achieve internal and external balance. How does this relate to the absorption approach to balance-of-payments adjustment?

4.In the early 1970s the United States moved from a fixed to a flexible exchange-rate system. Explain how this would alter the relative effectiveness of monetary and fiscal policy in promoting recovery from domestic recession.

Answer rating: 100% (QA)

1 Expansionary Fiscal Policy vs Expansionary Monetary Policy in Open Economies with Fixed Exchange Rates and High Capital Mobility In an open economy with high capital mobility and fixed exchange rates the effectiveness of fiscal and monetary policies can vary due to certain constraints and mechanisms at play Expansionary Fiscal Policy This involves increased government spending or tax cuts to stimulate aggregate demand In such an economy with fixed exchange rates fiscal policy can be more effective because it directly impacts domestic demand without causing currency depreciation High capital mobility however can lead to potential capital outflows in response to increased government spending reducing some of the stimulus effects Nonetheless fiscal policy can still be potent in stimulating economic activity especially if the capital outflows are not substantial Expansionary Monetary Policy This typically involves lowering interest rates to encourage borrowing investment and consumption However in an open economy with fixed exchange rates this policy can be less effective The fixed exchange rate ... View the full answer