Term
|
Definition
| the value of one currency expressed in terms of another |
|
|
Term
|
Definition
| an exchange rate regime where the value of a currency is allowed to be determined solely by the demand for, and the supply of, the currency on the foreign exchange market. |
|
|
Term
| A fixed exchange rate can be fixed to... |
|
Definition
The value of another currency
The average value of a selection of currencies
The value of some other commodity, such as gold |
|
|
Term
| Reasons for demand of a floating currency |
|
Definition
Buying exports
Travel
Investment
Speculation |
|
|
Term
| Causes of increased demand for a floating currency |
|
Definition
Increased demand for goods
Lower inflation rates (goods relatively cheaper)
Improved investment prospects Increased interest rates |
|
|
Term
| Diagram: increased demand for floating currency |
|
Definition
|
|
Term
| Diagram: increased supply for floating currency |
|
Definition
|
|
Term
|
Definition
| a fall in the value of one currency in terms of another currency in a floating exchange rate system. |
|
|
Term
|
Definition
| an increase in the value of one currency in terms of another currency in a floating exchange rate system. |
|
|
Term
|
Definition
| a decrease in the value of a currency in a fixed exchange rate system |
|
|
Term
|
Definition
| an increase in the value of a currency in a fixed exchange rate system |
|
|
Term
| Effects of trade flow on exchange rate |
|
Definition
Increased exports causes appreciation
Increased imports causes depreciation |
|
|
Term
| Effects of capital flows/interest rate changes on exchange rate |
|
Definition
Increase in FDI causes appreciation
Increase in investment abroad causes depreciation
Increased interest rate encourages investment (causing appreciation) |
|
|
Term
| Effect of inflation on exchange rate |
|
Definition
| Increased inflation causes depreciation, since exports fall and imports rise. |
|
|
Term
| Effects of speculation on exchange rates |
|
Definition
| Belief of appreciation causes increased demand and hence appreciation |
|
|
Term
| Effects of the use of foreign currency reserves on exchange rate |
|
Definition
Buying domestic currency with foreign reserves causes appreciation (increased demand)
Buying foreign currency with domestic currency causes depreciation (increases supply) |
|
|
Term
| Factors affecting exchange rate |
|
Definition
Trade flow (imports and exports)
Capital flows/interest rate changes
Inflation
Speculation
Government intervention/foreign currency reserves |
|
|
Term
| Effects of exchange rates |
|
Definition
On inflation: higher exchange rates decrease inflation (cheaper imports, lower costs, lower prices)
On trade: higher exchange rates increases imports and decreases exports
On employment: Higher exchange rates damage export industries, who lay off workers
On the balance of payments: higher exchange rates can worsen/cause a current account deficit |
|
|
Term
| Advantages of a fixed exchange rate |
|
Definition
Reduces uncertainty
Ensures sensible government policies on inflation
Reduces speculation |
|
|
Term
| Disadvantages of a fixed exchange rate |
|
Definition
Fluctuations in interest rate
Needs high levels of foreign reserves
Difficulties in setting exchange rate International disagreement |
|
|
Term
| Advantages of a floating exchange rate |
|
Definition
Interest rate can vary (allows use for demand management policies)
Keeps the current account balanced automatically
A smaller foreign currency reserve is needed |
|
|
Term
| Disadvantages of a floating exchange rate |
|
Definition
Creates uncertainty
May not actually automatically correct current account deficits
Loss of competitiveness and efficiency
May worsen inflation problems |
|
|
Term
| Advantages of single currencies/monetary integration |
|
Definition
Fewer transaction costs
Less uncertainty
Price comparisons easier between member countries
Increased FDI |
|
|
Term
| Disadvantages of single currencies/monetary integration |
|
Definition
Loss of ability to adopt independent monetary policy
Loss of ability to ease balance of payment problems
Transition cost |
|
|
Term
| Purchasing power parity (PPP) theory |
|
Definition
| Purchasing power parity (PPP) theory: states that under a floating exchange rate system, exchange rates adjust to offset differential rates of inflation between countries that are trading partners in order to restore balance of payments equilibrium |
|
|
