Why does the LL schedule have a negative slope? The economic stability loss from pegging to the area's currencies _______ as the degree of economic interdependence _______.

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BlackTom AI · Accepted Answer

First, let's restate what the question is asking in plain terms: why does the LL schedule have a negative slope in the given context, and how does economic stability loss from pegging relate to the degree of economic interdependence?
Option 1: "falls; remains constant" — This option claims that the stability loss decreases and that it stays unchanged when interdependence is constant. The typical reasoning behind the LL schedule’s negative slope is that as interdependence increases, pegging to other currencies tends to expose a country to more spillovers, which raises, not lowers, potential instability; therefore saying both that loss falls and that it remains constant is inconsistent with the idea of increasing exposure with interdependence. This makes this option incorrect.
Option 2: "rises; rises" — Here both parts claim a positive relationship: stability loss rises and interdependence rises. While rising interdependence does imply greater exposure and potential instability, the first clause contradicts the standard notion that the LL schedule is negatively sloped in this setup, which reflects an inverse relationship between the degree of pegged stability loss and income/expenditure constraints as interdependence grows. Since the question centers on the negative slope of the LL schedule, this option is inconsistent with that characterization and is thus incorrect.
Option 3: "falls; rises" — This option says that as interdependence rises, the economic stability loss from pegging increases (the phrasing indicates the loss falls when measured against the peg? Note the structure: "economic stability loss from pegging to the area's currencies falls as the degree of economic interdependence rises" means the loss decreases when interdependence increases). In the context of an LL schedule with a negative slope, the standard interpretation is that higher interdependence reduces the marginal stability loss, or equivalently, the observed loss falls as interdependence increases. Therefore this option aligns with the idea of a negative slope: increasing interdependence leads to falling stability loss, while the degree of interdependence rising is the causal factor. This makes this option the correct one.
In summary, each option was weighed against the idea that the LL schedule is negatively sloped due to greater interdependence dampening the marginal stability loss from pegging. Options 1 and 2 misstate either the direction of the relationship or fail to reflect the negative slope, while option 3 captures the intended inverse relationship between interdependence and stability loss, consistent with a negative slope.

Why does the LL schedule have a negative slope? The economic stability loss from pegging to the area's currencies _ as the degree of economic interdependence _.

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