Money supplies as a result of arbitrage

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Suppose that the United States and the United Kingdom both use the gold standard. Their prices of gold are $35 = 1 ounce and £7 = 1 ounce, which yields an implied exchange rate of $5 = £1. Now suppose that the exchange rate temporarily rises to $5.50 = £1. What will happen to the U.S. and U.K. money supplies as a result of arbitrage?

The U.S. money supply would fall and the U.K. money supply would rise.

Both the U.S. and the U.K. money supplies would rise.

Both the U.S. and the U.K. money supplies would fall.

The U.S. money supply would rise and the U.K. money supply would fall.

Reference no: EM13984267

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