Question

Consider the following statements about Flexible Exchange Rate System:
A. The Governments do not need to maintain large stocks of foreign exchange reserves.
B. The Governments will have to intervene to take care of a deficit in the balance of payment by use of its official reserves.
Choose the correct answer from the options given below:

• A. A is true and B is false
• B. Both A and B are true
• C. A is false and B is true
• D. Both A and B are false

Hint:

In a flexible exchange rate system, government intervention is minimal, and currency values are determined by the market.

Answer 1

The Correct Option is A

In the Flexible Exchange Rate System, the exchange rate is determined by market forces of supply and demand. Statement A is true, as the system does not require the government to maintain large stocks of foreign exchange reserves. However, Statement B is false because, under this system, governments typically do not need to intervene directly to address balance of payment deficits, as the exchange rate adjusts automatically through market forces. Thus, the correct answer is (1) A is true and B is false.