Under a fixed exchange rate system, the government sets the rate below the market rate. If it cannot meet the excess demand for dollars from its past holdings of dollars, then:
Answer & explanation
Correct answer: option 3
The correct answer is Option (3) → a black market for dollars may come up
At a rate below the market rate, the demand for dollars is greater than the supply. The government must meet this excess demand from its past holdings of dollars.
If it cannot, people who still want dollars buy them outside the official market, so a black market for dollars may come up.
NCERT (2026-27): “Fixed Exchange Rates … On the other hand if the goverment was to set an exchange rate at a level such as e2, there would be an excess demand for dollars in the foreign exchange market. To meet this excess demand for dollars, the government would have to withdraw dollars from its past holdings of dollars. If it fails to do so, a black market for dollars may come up. …”
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