Macroeconomics: Open Economy Macroeconomics · Class 12 · CBSE · Commerce Economics
Under a flexible exchange rate system, if the demand for foreign currency increases while its supply remains unchanged, what is the most likely immed…
Practice question from Macroeconomics: Open Economy Macroeconomics (Class 12 · CBSE · Commerce Economics), with the correct answer and a step-by-step solution.
medium · MCQ · Q-7C2327
Under a flexible exchange rate system, if the demand for foreign currency increases while its supply remains unchanged, what is the most likely immediate effect?
- A.The domestic currency appreciates
- B.The domestic currency depreciatesCorrect answer
- C.The exchange rate becomes permanently fixed
- D.The balance of payments automatically becomes zero
Solution
An increase in demand for foreign currency raises its price in terms of domestic currency. Consequently, the domestic currency loses value, which is called depreciation under a flexible exchange rate system.
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