3. The currency stabilization fundSuppose the Brazilian government recognizes that its reliance on soya exports makes it vulnerable to the Dutch Disease. On the one hand, if soyaprices increase, the Brazilian real will appreciate, the real exchange rate will increase, and the nation's exports will become more expensive for othercountries to buy. On the other hand, if soya prices fall, the Brazilian real will depreciate, and the country's revenues will decline. The Braziliangovernment creates a currency stabilization fund to maintain a stable exchange rate to avoid a negative outcome. To stabilize the value of a currencywithin a certain range, the stabilization fund managers take one of the following actions:• If the real depreciates below some threshold value (a floor) per real, the fund managers will purchase the excess supply of reais inthe international exchange market to increase the value of the real to at least the floor value.• If the real appreciates above some threshold value (a ceiling) per real, the fund managers will sell the excess supply of reais to lowerits value to at least the ceiling value.Consider the following scenario:Brazil establishes a currency stabilization fund to keep the exchange rate between $2 per Brazilian real and $5 per Brazilian real.Initially, the market exchange rate is within the allowed range at $4 per Brazilian real, as shown by the intersection of the demand (D₁)and supply (S₁) curves for the Brazilian real on the following graph. Suppose that due to an increase in the world demand for soya,Brazil is able to export more soya, and the demand for the Brazilian real increases from D₁ to D₂.On the following graph, use the grey point (star symbol) to show the new exchange rate resulting from an increase in the world demand for soya. EXCHANGE RATE10880200vThe market for foreign exchange201D4060QUANTITY (Millions of reais)80CeilingFloor15NO100New Exchange RateActionAccording to the graph, which of the following correctly describes the effect of the increase in the world demand for soya on the market for foreignexchange in Brazil?The Brazilian real appreciates, and the exchange rate reaches the ceiling value.The Brazilian real appreciates, and the exchange rate rises above the ceiling value.The Brazilian real depreciates, and the exchange rate reaches the floor value.O The Brazilian real appreciates, and the exchange rate falls below the floor value.On the previous graph, use the purple line (diamond symbol) to show how the stabilization fund managers have to adjust the value of the Brazilianreal to ensure it meets the official requirement. (Hint: You need to draw either a new supply curve or a new demand curve. Make sure the new curveis parallel to the given supply or demand curve. Position your cursor over the given curves to see their slopes.)The managers will effectivelymillion reais.

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Exchange Rate signifies the value of the currency against the currency of the other country. It…