deck_15149381 Flashcards

1
Q

What is the gold standard?

A
  • currency could be converted to a weight of gold
  • Fixed exchange rates
  • Expansionary monetary policy limited to government supply of gold
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2
Q

What is Bretton woods and IMF?

A
  • Fixed exchange rate system by IMF
  • $ pegged to gold, all other currencies had fixed exchange rates against dollar
  • Dollar main international reserve currency
  • Foreign banks buy/sell $
  • US has monetary independence
  • BoP imbalances offset by buffer of international reserve and IMF credits
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3
Q

What is IMF

A
  • Helps countries defend their currencies against cyclical, seasonal or random occurrences
  • Assist countries having structural trade problems if they promise to take adequate steps to correct these
  • Special drawing rights is the IMF reserve assets. Weighted average of five currencies including the Chinese Renminbi
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4
Q

Why did they stop fixed exchange rates after IMF?

A
  • BOP deficit in US due to $US being main reserve currency
  • foreigners lacked confidence in US to meet commitment to convert to gold
  • After $ was devalued and currencies were allowed to float
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5
Q

What are the four IMF classifications of currency regimes?

A

Category 1: Hard Pegs (13.0%)
– Countries that have given up their own sovereignty over monetary policy
– E.g., dollarization or currency boards

*Category 2: Soft Pegs (39.6%)
– AKA fixed exchange rates, with five subcategories of classification

*Category 3: Floating Arrangements (37%)
– Mostly market-driven, these may be free floating or floating with occasional government intervention

Category 4: Residual (10.4%)
– The remains of currency arrangements that don’t well fit the previous categorizations

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6
Q

What are the three “prices” of money?

A

– Price relative to time → interest rate
– Price relative to foreign → currency exchange rate
– Price relative to all goods and services → aggregate
price level (price deflator)

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7
Q

What is monetary policy?

A

A
The central bank’s way of controlling the moeny supply and credit.

Tools: Discount rate, reserve requirement, open market operations.

Objective: stimulate GDP, lower unemployment and inflation, target a level of exchgange rate.

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8
Q

What are open market operations

A

OMOs, they are tools for changing short-term interest rates.

They affect the monetary base which is the portion of commercial banks’ reserves that are maintained in accounts with teh central bank plus the total currency in circulation.

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9
Q

What are the attributes of idea currency?

A

The impossible trinity: 1) Exchange rate stability; 2) Full financial integration; 3) Monetary independence

Forces of economics do not allow all three to be achieved simultaneously (look at graph slide 29)

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10
Q

What is triffin dilemma

A

Conflict in objectives between domestic monetary and currency policy objectives and external or international objectives when a country’s currency is used as a reserve

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11
Q

What does BOP include

A

Current account (CA), Financial/capital account (FA) and Official reserve account (ORA)

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12
Q

Why is it incorrect to state BOP is in disequilibrium?

A

Because BOP must balance. The “net errors and omissions account” is created to preserve the balance

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13
Q

What is the current account in BOP?

A

All international transactions with income or payment flows occur within a year. Includes four subcategories:
1. Goods trade and import of goods
2. Service trade
3. Income
4. current transfers

  • Dominated by goods trade and import (AKA Balance of trade)
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14
Q

What is the financial account in BOP?

A

Exchange of financial assets, the degree of control over assets/operations is used to classify financial assets.

Net foreign investment (FDI): Direct investment, acquired with the goal of controlling the company (10% threshold)(honda builds plant in ohio)

Portfolio investment (FPI): german resident buys japanese government bonds

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15
Q

How does Supply = Demand also show that BOP is zero?

A

Supply = demand

exports + foreign investments = Imports + Investments in the US

Current account = - (Financial account)

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16
Q

What is China’s twin surpluses?

A
  • High surplus in both current and financial accounts (normally inverse relationship between the two for free floating currency)
  • Twin surpluses are balanced by official reserves: Official reserves show a deficit, therefore not breaking the rules.
    -Reserves allow china to manage value of chinese Yuan and its impact on competition in world economy
17
Q

How do interest rates affect BOP?

A

Low interest rates –> Capital outflow

High interest rates –> capital inflow

Opposite occured in US due to growth opportunities and political stability (why large deficit is allowed)

18
Q

How does BOP affect inflation rates?

A

Imports decrease inflation rates as substitutes for domestic products keep prices low.

Increased lower price imports –> lower employment and GDP

19
Q

Why do policymakers and global businesses care about BOP?

A

it gauges a nation’s competitiveness and health.

For MNE home and host country BOP data is important:
1. Indicates pressure on exchange rate
2. Imposes or removes control of certain payments (dividends, interest, licensing, cash disbursement)
3. It is a forecast of a country’s market potential (especially short run)

20
Q

What is the international position of a country which spends more than its income? (CA deficit)

A
  • imports > exports
  • invests > savings
  • and/or gov. budget deficit
  • overspending financed with investment by foreigners so with flexible exchanges rates, there will be FA surplus
21
Q

Is a CA deficit sustainable?

A

A
It will likely lead to currency depreciation, however we must consider the FA as attractive investment opportunities at home can explain persistent strenth of domestic currency.

E.g. US who has domestic spending > total output

22
Q

How do you cope with current account imbalances? What are the effects of these strategies?

A

Through protectionism (tarrifs, quotas, import restrictions)

However this decreases demand of foreign currency and therefore an increase in domestic currency

Domestic goods are more expensive than abroad and therefore exports decrease

EVERYONE LOSES!