trade Flashcards
what are 5 factors that affect the exchange rate of a currency
increase/ decrease in exports
increase/ decrease in imports
increase/ decrease in actions of speculators- exchange rates
expectations of appreciation/ depreciation
use of forgein country reserves by gov
what curve does exports changing effect
demand curve
what curve does imports changing effects
supply curve
whats the consequence of an increase in exports
demand curve shifts right
foreign buyers will need more British pounds to pay for them. This higher demand for pounds will push up the value of sterling.
This higher demand for pounds increases its value (becomes more expensive as its more scarce so price of the pound rises) compared to other currencies making the pound stronger in the foreign exchange market (like when there’s not enough of a product, its price tends to rise)
whats the consequence of an decrease in exports
demand curve shifts left
A decrease in UK exports will have the opposite effect, resulting in a fall in the demand for sterling and a fall in its value as its more readily supplied so its cheaper
whats the consequence of an increase in the volume of imports
supply curve shifts right
If the UK imports more goods, people need to exchange more pounds for foreign currencies to pay for them.
This increases the supply of pounds in the market, causing its value to drop.
When there are more pounds available but not enough demand to match, the value of the pound fall as its less scarce (like when there’s too much of a product, its price tends to drop)
what’s the consequence of an decrease in the volume of imports
supply curve shifts left
a fall in the supply of the sterling and the sterling will rise in value
less sterling going towards foreign goods so there is less sterling available
what is the consequence of a rise in interest rates
demand curve shifts right and supply curve shifts left
interest rates and exchange rates have a positive relationship
This is due to hot money flows as they take advantage of economic conditions as these higher interest rates are more attractive meaning demand for the pound is higher so it becomes more expensive as its more scarce. Uk firms will be less incentivized to send their savings abroad.
what are the consequences of a fall in interest rates
supply curve shifts right, demand curve shifts right
people move their money out of the uk so there is less demand for the pound
Lower interest rates often lead to a depreciation of a country’s currency. Investors may move their money abroad to avoid potential losses due to a weaker domestic currency. - investors may move their money to another country with higher interest rates as they will yield a higher return
whats the consequences of expectations of depreciation
supply curve shifts right
(Buying in a cheaper market then selling in a more expensive one)
When the currency value is expected to fall people will sell their reserves (currency holdings in bank) meaning there is now a higher supply of that currency so demand will decrease and it will become less expensive as its more available
whats the consequences of expectations of appreciation
demand curve shifts right
speculators expect the value of the currency to rise in the future, then they will begin purchasing that currency leading to an increase in its value
what happens and the consequence when the central bank wants to appreciate the sterling
demand curve shifts right
central bank intervenes by selling domestic currency to buy foreign currency
Appreciation is contractionary monetary policy- increasing int rates
The bank of England try to influence the exchange rate as higher interest rates or more attractive
To do this, they may sell some of their foreign currencies to gain pounds meaning there are less pounds available to buy increasing the demand of them therefore increasing the price of them (sell pound for foreign currencies if want to increase supply of the pound and lower the exchange rate)
what happens and the consequence when the central bank wants to depreciate the sterling
supply curve shifts right
reduce the value of the pound, it would sell pounds for foreign currency, increasing the supply and hence reducing the equilibrium price.
makes UK assets less attractive to investors, leading to capital outflows and a weaker pound.
this can make exports cheaper for foreign buyers increasing demand
terms of trade meaning
determine the buying power of a countries exports in terms of the imports that they can afford. So improved TOT leads to higher living standards as more imported goods can be purchased.
terms of trade formula
(index of average export price/ index of average import price) x 100
what is trade creation
shift in consumer spending from a higher cost domestic source to a lower cost partner source within the EY/NAFTA
what is trade diversion
shift in consumer spending from a lower cost world source to a higher cost partner source in the EU
what is the marshall learner condition
for a depreciation in the exchange rate to improve, the balance of trade for PED of imports + exports must be greater than 1
what does this look like as an equation
PED(x)+ PED (m) > 1
what curve shows this
j curve
what is the short run effect and why does it look like this on j curve
x and m are fixed so the volumes dont change immediately- may be unaware, want to wait it out etc
straight line part
what does it initially dip down
e still importing the same amount, but now at higher prices due to the weak currency → import bill rises.
this leads to deficit worsening
what happens if PED is inelastic
Xrev falls, Mexp rises
Why could exports be PED inelastic in SR
selling necessities/commodities which households might not buy significantly more of when price falls
does it have to be both imports and exports that are inelastic
doesn’t have to be both imports and exports that are price inelastic — even if just one of them is, the initial effect of depreciation can still be a worsening of the current account (the downward part of the J Curve).
what may happen in the LR
households and firms can switch to substitutes as contracts end or different sources of supply/alternatives become available so PED becomes more elastic for BOTH.
what are 4 evaluation points
Time lag: How long until the current account improves?
Elasticity: If demand for exports/imports is inelastic, the current account might not improve.
Structural factors: If a country can’t increase exports (due to low capacity- like low production so cant supply the exports thhat will be cheaper for foreign buyers, poor competitiveness), the theory may not hold.
Global conditions: If the global economy is weak, export demand might not rise despite lower prices. e.g If trading partners are in recession or economic slowdown, their consumers and businesses may not have the money to increase spending, even on cheaper imports.
what other 4 topics can you link to
Exchange rate policy
Competitiveness
Trade balance / Balance of payments
Macroeconomic policy objectives (growth, inflation, employment)
1)
Under a floating exchange rate system, a depreciation can occur naturally due to market forces, potentially improving the current account in the long run. The J Curve illustrates how this improvement may take time
2)
although the initial period of market entry might see setbacks or losses, the company or economy might ultimately reap the rewards of having a stronger global presence, with higher sales or profits, better economies of scale, or more diversified markets.
3) inflation
If the depreciation leads to increased exports, the economy could grow, but there might still be inflationary pressures due to increased demand. However, if the economy is growing due to higher exports and investment, this could potentially help offset inflationary concerns in the long run, as wages and output rise.
3) employment SR
in the early stages of a depreciation, there might be some negative effects on employment. Companies that rely on imports may face higher costs and lower profitability, leading to potential layoffs or reduced hiring. The adjustment period may also cause instability in certain sectors that are more exposed to international trade.
3) employment lr
Over time, as the trade balance improves (as the J-Curve suggests), exports increase, leading to a rise in demand for labor in export industries. This can boost employment, particularly in manufacturing, agriculture, or other sectors dependent on foreign markets.
The improvement in economic growth, driven by a stronger export sector, could lead to higher overall demand for labor, which would decrease unemployment over time.
