Question

Describe the movement of each line in the context of what’s happening in the economy.

During the Bretton Woods system the currency of Germany was pegged to the dollar. Show why (assuming Germany prefers low inflation) they were unhappy with rising U.S. inflation.

Answer 1

Answer:-

The increase in the prices o f the United States increased the competitiveness of the German Goods. With higher demand for German Exports and Fixed exchange rate, the aggregate demand and output increased. Now higher output increases imports but not enough to match exports. Therefore there is over employment and a trade surplus. This induces the German Banks to buy the U.S dollars to maintain parity as the supply for the foreign exchange is larger than the demand. Due to increase in the domestic high powered money and unless the dollar Purchase is sterilized, the German money stock increased. This lead to the increased price s in the country. Therefore The German people were worried about the increased inflation in the U.S as it has spill over effect on them as it was pegged to the dollar.