Ans 4. A. Devaluation, is a condition in international affairs where countries compete against each other to achieve a relatively low exchange rate for their own currency. As the price to buy a country\'s currency falls so too does the price of exports. Imports to the country become more expensive. So domestic industry, and thus employment, receives a boost in demand from both domestic and foreign markets. However, the price increase for imports can harm citizens\' purchasing power. The policy can also trigger retaliatory action by other countries which in turn can lead to a general decline in international trade, harming all countries. China’s unexpected move Tuesday to devalue its currency highlights a growing trend among policy makers in Europe and beyond: the importance of exchange rates as a means to juice economic growth and keep inflation from weakening too much. It also underscores how sensitive central bankers are to each other’s monetary policies. In China’s case, expectations of tighter monetary policies by the Federal Reserve have prompted a rise in the value of the U.S. dollar. Given that China’s currency, the Yuan, is linked to the dollar’s value, it has raised as well against the euro and many emerging market currencies, weighing on Chinese exports. Analysts don’t see China’s move as sparking a wider currency war, but rather as an indication that exchange rates will continue to play a central role in efforts by policy makers to protect fragile economies. China’s central bank on Tuesday changed the way the Yuan is fixed against the U.S. dollar, which will now be based on how the currency closed in the previous trading session. That pushed that fixing rate against the U.S. dollar down 1.9%. The decision came in the wake of recent data showing China’s exports fell in July from a year earlier. B. Defending a pegged exchange rate imposes a real burden on a country. First, borrowing to supplement foreign exchange reserves increases the public sector deficit (and can raise debt service requirements). Second, raising interest rates can cause an economic contraction and depress economic activity. This contraction could aggravate the fiscal situation by reducing tax revenues. Third, if mortgage or other private sector lending rates are tied to money market rates, defending an exchange rate via the interest rate can cause economic distress among key sectors of the population. C. Devaluation has a positive effect on the level of output. D. There are numerous channels through which the effects of currency fluctuations are transmitted onto the domestic price level and output. Under a fixed exchange rate system, official changes in the value of a country’s currency relative to other currencies are called devaluations and revaluations. Whereas under a flexible exchange rate system, market force-generated changes in the value of the country’s currency are known as depreciations and appreciations. In this paper, the terms depreciation and devalu.

1. Ans 4. A. Devaluation, is a condition in international affairs where countries compete against
each other to achieve a relatively low exchange rate for their own currency. As the price to buy a
country's currency falls so too does the price of exports. Imports to the country become more
expensive. So domestic industry, and thus employment, receives a boost in demand from both
domestic and foreign markets. However, the price increase for imports can harm citizens'
purchasing power. The policy can also trigger retaliatory action by other countries which in turn
can lead to a general decline in international trade, harming all countries.
China’s unexpected move Tuesday to devalue its currency highlights a growing trend among
policy makers in Europe and beyond: the importance of exchange rates as a means to juice
economic growth and keep inflation from weakening too much. It also underscores how sensitive
central bankers are to each other’s monetary policies. In China’s case, expectations of tighter
monetary policies by the Federal Reserve have prompted a rise in the value of the U.S. dollar.
Given that China’s currency, the Yuan, is linked to the dollar’s value, it has raised as well against
the euro and many emerging market currencies, weighing on Chinese exports.
Analysts don’t see China’s move as sparking a wider currency war, but rather as an indication
that exchange rates will continue to play a central role in efforts by policy makers to protect
fragile economies. China’s central bank on Tuesday changed the way the Yuan is fixed against
the U.S. dollar, which will now be based on how the currency closed in the previous trading
session. That pushed that fixing rate against the U.S. dollar down 1.9%. The decision came in the
wake of recent data showing China’s exports fell in July from a year earlier.
B. Defending a pegged exchange rate imposes a real burden on a country. First, borrowing to
supplement foreign exchange reserves increases the public sector deficit (and can raise debt
service requirements). Second, raising interest rates can cause an economic contraction and
depress economic activity. This contraction could aggravate the fiscal situation by reducing tax
revenues. Third, if mortgage or other private sector lending rates are tied to money market rates,
defending an exchange rate via the interest rate can cause economic distress among key sectors
of the population.
C. Devaluation has a positive effect on the level of output.
D. There are numerous channels through which the effects of currency fluctuations are
transmitted onto the domestic price level and output. Under a fixed exchange rate system, official
changes in the value of a country’s currency relative to other currencies are called devaluations
and revaluations. Whereas under a flexible exchange rate system, market force-generated
changes in the value of the country’s currency are known as depreciations and appreciations. In
this paper, the terms depreciation and devaluation are used interchangeably.

2. Solution
Ans 4. A. Devaluation, is a condition in international affairs where countries compete against
each other to achieve a relatively low exchange rate for their own currency. As the price to buy a
country's currency falls so too does the price of exports. Imports to the country become more
expensive. So domestic industry, and thus employment, receives a boost in demand from both
domestic and foreign markets. However, the price increase for imports can harm citizens'
purchasing power. The policy can also trigger retaliatory action by other countries which in turn
can lead to a general decline in international trade, harming all countries.
China’s unexpected move Tuesday to devalue its currency highlights a growing trend among
policy makers in Europe and beyond: the importance of exchange rates as a means to juice
economic growth and keep inflation from weakening too much. It also underscores how sensitive
central bankers are to each other’s monetary policies. In China’s case, expectations of tighter
monetary policies by the Federal Reserve have prompted a rise in the value of the U.S. dollar.
Given that China’s currency, the Yuan, is linked to the dollar’s value, it has raised as well against
the euro and many emerging market currencies, weighing on Chinese exports.
Analysts don’t see China’s move as sparking a wider currency war, but rather as an indication
that exchange rates will continue to play a central role in efforts by policy makers to protect
fragile economies. China’s central bank on Tuesday changed the way the Yuan is fixed against
the U.S. dollar, which will now be based on how the currency closed in the previous trading
session. That pushed that fixing rate against the U.S. dollar down 1.9%. The decision came in the
wake of recent data showing China’s exports fell in July from a year earlier.
B. Defending a pegged exchange rate imposes a real burden on a country. First, borrowing to
supplement foreign exchange reserves increases the public sector deficit (and can raise debt
service requirements). Second, raising interest rates can cause an economic contraction and
depress economic activity. This contraction could aggravate the fiscal situation by reducing tax
revenues. Third, if mortgage or other private sector lending rates are tied to money market rates,
defending an exchange rate via the interest rate can cause economic distress among key sectors
of the population.
C. Devaluation has a positive effect on the level of output.
D. There are numerous channels through which the effects of currency fluctuations are
transmitted onto the domestic price level and output. Under a fixed exchange rate system, official
changes in the value of a country’s currency relative to other currencies are called devaluations
and revaluations. Whereas under a flexible exchange rate system, market force-generated
changes in the value of the country’s currency are known as depreciations and appreciations. In
this paper, the terms depreciation and devaluation are used interchangeably.