Which of the following statements about a fixed exchange rate system are correct?
(A) There must be credibility that the government can maintain the rate at the level specified.
(B) If people know that reserves are inadequate, there may be speculation of devaluation.
(C) A speculative attack on a currency forces the government to revalue it.
(D) Fixed exchange rates are free from speculative attacks.
Choose the correct answer from the options given below:
Answer & explanation
Correct answer: option 1
The correct answer is Option (1) → (A) and (B) only
A fixed rate works only while people trust the government to hold it.
(A) There must be credibility that the government can maintain the rate at the level specified. — Correct. This is the main feature of the system.
(B) If people know that reserves are inadequate, there may be speculation of devaluation. — Correct. They doubt that the rate can be held.
(C) A speculative attack on a currency forces the government to revalue it. — Incorrect. Aggressive buying of another currency forces the government to devalue.
(D) Fixed exchange rates are free from speculative attacks. — Incorrect. Fixed rates are prone to such attacks.
NCERT (2026-27): “6.2.3 Merits and Demerits of Flexible and Fixed Exchange Rate Systems The main feature of the fixed exchange rate system is that there must be credibility that the government will be able to maintain the exchange rate at the level specified. Often, if there is a deficit in the BoP, in a fixed exchange rate system, governments will have to intervene to take care of the gap by use of its official reserves. If people know that the amount of reserves is inadequate, they would begin to doubt the ability of the government to maintain the fixed rate. This may give rise to speculation of devaluation. When this belief translates into aggressive buying of one currency thereby forcing the government to devalue, it is said to constitute a speculative attack on a currency. Fixed exchange rates are prone to these kinds of attacks, as has been witnessed in the period before the collapse of the Bretton Woods System. …” |