Fixed exchange rates and are linked to world capital markets

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Consider two small open economies that maintain fixed exchange rates and are linked to world capital markets under conditions of imperfect capital mobility. Suppose that the two economies are otherwise identical, except that capital flows (portfolio allocations between domestic and foreign bonds) are more sensitive to interest rate differentials in economy A than in economy B. How could you expect the effectiveness of fiscal policy (it's ability to affect real GDP) in the two economies to be influenced by this difference between them? Explain.

Reference no: EM13888527

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