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Home Questions 8YXRYKECBC
Target Exam

CUET

Subject

Economics

Chapter

Macro Economics: Open Economy Macro Economics

Question:

Which of the following is not a merit of the flexible exchange rate system?

Options:

Exchange rates are prone to speculative attack on a currency.

Movements in the exchange rate automatically take care of the surpluses and deficits in the BOP.

Countries gain independence in conducting their monetary policies.

Large stocks of foreign exchange reserves are not required.

Correct Answer:

Exchange rates are prone to speculative attack on a currency.

Explanation:

The correct answer is Option (1) → Exchange rates are prone to speculative attack on a currency.

Under a flexible (floating) exchange rate system, the value of a currency is determined by market forces of demand and supply.

Merits of a flexible exchange rate system:

  • Movements in the exchange rate automatically correct Balance of Payments surpluses or deficits.

  • Countries enjoy independence in monetary policy decisions.

  • No need to maintain large foreign exchange reserves.

However, a demerit (not a merit) is that exchange rates are highly volatile and prone to speculative attacks, causing instability in currency value.

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