Question

If interest rates decline in a recession, the extent of the weakening of the economy will...

If interest rates decline in a recession, the extent of the weakening of the economy will be limited (cushioned) by

a. The effect of the lower interest rates on its exchange rate, if its currency floats

b. The effect of the lower interest rates on the foreign exchange market, if its currency is fixed

c. What happens in the foreign exchange market is of no consequence for the economy

d. Both a and b
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Answer #1

Option b is correct .  The effect of the lower interest rates on the foreign exchange market, if its currency is fixed

During recession interest rates decline. This would make currency value to appreciate as compared to foreign currency and hence exports will be costlier . So exports will decline. However, in fixed currency the lowering if interest rates have no effect on foreign exchange. Lowering the interest rate will boost the economy while having no change in exchange rate and hence not affecting the exports.

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