IE 6 - exchange rates

Explain under which condi5on interest rate parity does not hold.

Interest rate parity may not hold if there are capital controls. Thus, arbitrage is no longer possible

advantages of a flexible exchange rate?

autonomous monetary policy. keep economic growth and employment up and inflation down. Increase rates to fight inflation. Decrease rates to fight unemployment and stimulate growth.

What are disadvantages of a flexible exchange rate?

A deprecia(on can lead to infla(on as more imports increase domestic prices.

further, if the country owes debts denominated in other currencies, a deprecia(on of the domes(c exchange rate can lead to an increase in debts in terms of domes(c currency.

if investors in the country hold assets denominated in other currencies, an apprecia(on of the domes(c currency might lead to losses on those foreign assets

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