10.2 Macro Flashcards
What are exchange rates?
The exchange rate is determined by demand and supply, with the eqm level being the current exchange rate
What is a floating exchange rate?
A floating exchange rate is an exchange rate that is set purely by the forces of demand and supply, and free from government intervention
What are the advantages of floating exchange rates?
Automatic adjustment of BoP- Countries with a large BoP deficit will find their currency weakens as they sell currency to buy imports. The weaker currency, then makes exports more price competitive, which helps to improve BoP deficit
Flexibility
Low requirement to hold large foreign exchange reserves
Freedom to pursue other macroeconomic objectives
What are the disadvantages of floating exchange rates?
Uncertainty
Speculation
Inflation
Damage to investment
When do fixed exchange rates occur?
Occurs when a government tries to maintain its exchange rate against that of another currency
Often implemented in order to promote trade and exports, and is typically used by countries with a degree of instability or high and rising levels of inflation
What are the advantages of fixed exchange rates?
Reduces uncertainty
Economic growth
Low inflation
Discipline of economic management
What are the disadvantages of fixed exchange rates?
Maintenance
Speculation
Conflict with other objectives
No automatic adjustment of BoP
What is a managed exchange system?
Aims to gain the advantages of both floating and fixed systems, whilst minimising the disadvantages
What is a dirty float?
If a managed float is done deliberately to gain an advantage over trading partners, this is known as a dirty float
This typically involves the government and central bank deciding upon an upper and lower limit that they ideally would like the exchange rate to operate between
What are the four ways that governments could intervene to influence exchange rates?
Change interest rates- increase to increase ER
Borrowing
Use foreign currency reserves
Inflation- reduce
What is a currency union?
A currency union is a group of independent countries that share a single currency
What are the advantages of a currency union?
Price transparency, competition and efficiency
Inward investment
Less uncertainty
Less currency conversion cost
What are the disadvantages of a currency union?
‘One Size Fits All’ Monetary Policy
Less national individual power
Economic shocks
Transition costs
Why do countries engage in foreign trade?
Access cheaper goods and services
Greater range of goods and services
Ability to lower average costs through specialisation
What are some assumptions of comparative trade?
Each country’s factor endowment is fixed and can’t be improved
Factors of production are immobile between countries
Constant returns to scale - opportunity cost is constant
Transport costs are small enough not to cancel the benefits of specialisation and trade
No barriers to trade
What is comparative advantage?
When one country is better at making one thing than the other
What is absolute advantage?
When one country is better at making both goods
Why do countries with an absolute advantage still trade?
Relations
Other goods
Large gains- trading less for more
What are the benefits of trade?
Increased overall global output
Greater competition
Employment opportunities
Export industries create employment through the expansion of aggregate demand
Encouragement of specialisation, leading to greater efficiency
Improved quality of goods and services
What are some costs of trade?
Over-specialisation Structural unemployment Infant Industries Dumping Environmental concerns
Name some protectionist policies.
Tariffs Quotas Embargoes Subsidies Administrative policies
What is a customs union?
A common set of import duty rates applied on goods from third countries i.e. a Common External Tariff (CET)
Duty-free and quota-free movement of tradable goods among members
Common safety measures for regulating the importation of goods from third parties e.g. food standards
A common trade policy that guides the trading relationships with third countries/trading blocs outside the Customs Union
What is a single european market?
Free movement of goods and services
Free movement of workers and capital
Common product standards and regulations
Common external tariff on imports into the EU
Some fiscal cordication (VAT for all members of at least 15%)
What is the WTO?
World Trade Organisation
