TOPIC 1.1 - International Monetary Arrangements Flashcards
Balance of Payments refer to a country’s…
Record of all international transactions
Reducing a current account deficit requires…
Increasing private savings relative to investment
Reduce fiscal deficit
Do less investment spending
What conditions need to be met for the gold standard to operate?
- Gold should be allowed to be freely exported and imported.
- Each member nation define the official price of gold in terms of it’s national currency.
- Each member nation’s money supply should consist of gold or paper money backed by gold.
A Big Mac in Thailand costs Baht 130 and a Big Mac in the US costs US$5.81. The exchange rate is currently Baht 33 per US$. Based on purchasing power parity, the Baht is [under or overvalued] against the US dollar, which suggests that goods in Thailand are [relatively cheaper or more expensive] than goods in the US.
Undervalued and relatively cheaper
A Big Mac in Thailand costs Baht 130 and a Big Mac in the US costs US$5.81. The exchange rate is currently Baht 33 per US$.
What are the implied PPP and real ERs?
Implied PPP ER = 130/5.81 = 22.37 (so USD is overvalued because the ER should be 22.37/USD but it is 33/USD therefore for 1 USD you get 33 Baht instead of 22.37 Baht and so USD is overvalued)
Real ER = 33*(5.81/130) = 1.47 (Real ER > 1 = so Baht is undervalued)
Suppose that a particular bundle of goods costs $1000 in Country A and the same bundle costs 5000 pesos in Country B. The exchange rate is currently 4 pesos per dollar. The implied PPP exchange rate is [$5/$1/$0.20 per peso], so the peso is [overvalued or undervalued] the US dollar.
$0.20 and overvalued
Suppose that a particular bundle of goods costs $1000 in Country A and the same bundle costs 5000 pesos in Country B. The exchange rate is currently 4 pesos per dollar.
What is the implied PPP ER (USD/pesos) and (pesos/USD)
$0.20USD/pesos and 5pesos/$1USD
What is the most commonly traded currency in the world
USD
What is the Current Account
The Net Trade in Goods and Services.
Includes:
- Imports and Exports of goods and services (X-M)
- Net international investment income (stocks)
- Net international transfers (paying family overseas, gifts)
What is the Capital Account (KA)
International investement
Includes:
- Net international borrowing and lending
- [Sales of NZ land, bonds, shares etc to foreigners] - [Purchases of foreign land, bond shares etc by NZ’ers]
If you have a CA surplus you have a KA what? And what number should the CA and KA have?
KA deficit, and the +CA = -KA (BOP)
What is the Official Settlements Account (OSA)
Keeps track of BOP for a country
[Reserve Assets received by RBNZ] - [Reserve Assets paid to another CB]
Balance of Payments Equation
CA + KA + OSA = 0 (by definition)
Examples of what to do when a country has a CA surplus
Use the money to invest or pay back foreign debt
What is a Exchange Rate?
The price of money in terms of another. For example:
foreign currency/USD
USD accounts for how much of the traded currency in the world?
86%
Demand for pounds is downward sloping because…
as pounds get cheaper more people want them.
Supply for pounds is upward sloping because…
as pounds are more expenny more people want to sell them
What is a Floating ER?
The value of a country’s currency can vary freely and goes up and down dependent on the demand and supply of the foreign exchange market.
What is a fixed ER?
The CB will either change IR or sell/buy foreign currency to maintain a fixed ER.
Explain a CA deficit under a floating ER? (5 steps)
- CA Deficit means we are buying excess imports
- Therefore we are giving more NZD so as to purchase them
- This increases the supply of NZD in the foreign exchange market shifting the curve to the right.
- Thus the ER depreciates.
- However exports are thus cheaper so demand for NZD may increase and therefore the ER may appreciate.
CA Deficit under Fixed ER?
- CA Deficit means we are buying excess imports
- Therefore we are giving more NZD so as to purchase them
- This increases the supply of NZD in the foreign exchange market shifting the curve to the right.
- However ER is fixed, so to keep ER the CB buys excess NZD and sells foreign currency out of its reserves.
- This increases demand for NZD (because the govt. wants NZD) therefore shifting the demand curve right back to the fixed ER.
What is Gross Domestic Product (GDP)?
output/input produced within the country’s borders
What is Gross National Product (GNP)?
output/input from anywhere owned by country’s residents (its nationals).
What is Gross National Disposable Income (GNDI)?
Measures the income available to the nation for final consumption and gross savings.
GNDI = GNP + net international transfers
Y(GNDI) = …
C + I + G + CA
National Savings (S) is …
S = Y(GNDI) - C - G
OR
S = I + CA
What is S split into and the equations?
S = [Private Savings] + [Public Savings]
Private S = Y(GNDI) - T - C
Public S = T - G (fiscal balance)
CA = Private S + (T-G) - I tells us what in a CA deficit
To increase CA a country must (Private S) save more, (T-G) reduce fiscal deficit and/or (-I) do less investment spending.
Dependent on quality of saving and spending decisions which are causing CA deficits.
Real ER =
foreign price level
Nominal ER =
domestic currency
What is purchasing power parity (PPP)?
Identical goods should be sold everywhere at the same price when converted to a common currency (assuming no transport costs, no trade barriers, and that markets are competitive).
If PPP was to hold then real ER would equal…
One
Implied PPP =
foreign currency
Or could be round the other way as well dependent on which suits better to compare ER’s.
