Answer:
When a nation is economically integrated with trading partners,fixed exchange rates could promote integration and economic efficiency by keeping transaction costs low
Explanation:
The exchange rate is the value of a currency in terms of another. When exchange rates fluctuate, it creates uncertainty in trade. For example, when a country's currency depreciates, its exports are cheaper but imports are expensive. On the other hand, when its currency appreciates, exports are expensive but imports are cheaper. Thus, countries are unaware of what might happen and how their currency will affect them in the future which can deter them from trading. Therefore, they are unable to capitalize on comparative and absolute advantage nature of economies.
For example, Country A may have competitive advantage in the production of wheat. It can produce and sell at a lower rate than its neighboring country, Country B. However, if its currency appreciates, it makes exports expensive and transaction costs being higher, which leads to a fall in the trade and both countries being negatively impacted. Country A would have lost export revenue whilst country B would have to produce its wheat at an expensive cost.
When exchange rates are fixed, these countries would not have to worry about exchange rate fluctuations and hence can integrate and trade efficiently while keeping transaction costs low.
