Overview Chapters 12-17
Ch. 12: Int. Fin. Markets
• Currency Trading -> Exchange Rate
• Time lag twix ship and receive bigger than time needed for cable transfer. Solution: commercial bill of exchange
• Spot vs. Forward XR: risk transferred to speculators
• Also: Futures, Options, Swaps
Capital Flows
• To get higher return
• To get safer return: risk diversification
• SR: Money Market (maturity < 1 year)
• LR: Capital Market (maturity > 1 year)
Eurocurrency
• E.g., Eurodollar = $-denominated account outside the US
Ch. 13: XR (basic model)
• It’s a supply and demand thing.
• Demand for currency shifts with income and changing relative prices.
• Ditto for supply of currency
Ch. 14: XR (add M and i)
• Previous model good for long-term predictions. But other determinants matter in the shorter term: M and i.
• What is M?
• How does Supply of M work? (Reserve requirement -> multiplier)
• Discount rate, Open mkt ops
Demand for M
• MD=f(i,P,Y)
• MD=MS determines i
• Interest arbitrage: capital movement
• Affects XR, which affects Exp-Imp
Ch. 15: XRPPP
• What are the determinants of the exchange rate over long periods of time?
• What effect does monetary policy have on the country’s price level and therefore its exchange rate?
• Is there a benchmark for the current exchange rate?
Ch. 15: XRPPP
• arbitrage -> law of 1 price -> PPP
• relative PPP:
• RXR:
€
%ΔXR ≈ %ΔPU .S. −%ΔPU .K .
U.S.
U.K.
P
P*£)/($£)/($ RRXR =
Ch. 16: Y and XR (SR)
• AD and AS (slopes)
• Intersection determines Y and P
• Foreign income affects Exp
• Domestic income affects Imp
• XR affects both Imp and Exp
• XR affects composition of output(tradable vs. non-tradables)
Ch.17: Macro Policy
• Internal Balance– GDP (full employment)– P (keep inflation in check)
• External Balance– X-M (current account balance)
Fiscal Policy (expansionary)
(G and/or T) 1. direct effect: AD and P2. indirect effect: budget deficit Gov. must
borrow i attracts foreign capital (until i back at original level) XR (X-M) AD and P
3. net effect: ambiguous! Fiscal policy now used less as a means of stabilizing the economy than 30 years ago b/c of flexible exchange rates and increased international mobility of capital.
Monetary Policy (expansionary)
MS i1. direct effect: (C and I) (AD and P)2. indirect effect: outflow of capital XR (X-M)
(AD and P)3. net effect: clear!
monetary policy is more effective than fiscal policy as a stabilization tool b/c of flexible exchange rates.