Problem
Saudi Arabia
A. What is the trilemma?
B. What part of the trilemma is Saudi Arabia on?
C. If Saudi Arabia were to orient its monetary policy towards domestic objectives without changing any other policies, what would happen?
D. Let's say Saudi Arabia is considering moving towards a flexible exchange rate. Given the trilemma, what policy could Saudi Arabia implement with a flexible exchange rate that is not allowed under the trilemma with a fixed exchange rate?
E. Which of these two policy choices would be more beneficial to the Saudi economy? Your answer to above or their current fixed exchange rate arrangement? Why?
F. As Saudi Arabia currently has a fixed exchange rate, which policy would be more effective: monetary or fiscal policy? Show your work using the Mundell-Fleming model.
G. If Saudi Arabia moved to a floating exchange rate, which policy would be more effective: monetary or fiscal policy? Show your work using the Mundell-Fleming model.
H. Saudi Arabia is a major oil exporter, and its economy is sensitive to fluctuations in the price of oil. Consider this as a shock to Saudi exports (X). Which curve (IS or LM) would be affected directly by this change? Why?
I. Assume the Saudi central bank is concerned with minimizing output fluctuations given these oil shocks. Which regime is better in this respect: a fixed or a floating exchange rate?