What is the major negative of pegging your exchange rate to another currency?
The ¥/$ exchange rate is 100 ¥/$. There are no official reserve transactions. Draw the S&D for dollars with this equilibrium. Now suppose US inflation rises.
Show (and explain) what happens in the foreign exchange market.
Now suppose the US wants to peg the $ at 100 ¥/$. What could they do?
What would be the US balance of payments situation?
Is there an automatic adjustment taking place? Explain.
