UT GOV 312L - How Do Bond Markets Domestic Economic Policy? (5 pages)

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How Do Bond Markets Domestic Economic Policy?

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How Do Bond Markets Domestic Economic Policy?


Lecture number:
Lecture Note
University of Texas at Austin
Gov 312l - Issues and Policies in American Government
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GOV 312L 1st Edition Lecture 21 Outline of Current Lecture I How do bond markets domestic economic policy II The US the IMF and the Bretton Woods system III American at the center of the 2008 financial crisis IV Introduction Development foreign aid and ethics V What are the obstacles to development VI How best can wealthy countries help poorer countries Does foreign aid work VII Practical ethics and development Current Lecture The Discipline of global capital bond Markets Bond market can control a country s debt o They can sell bonds in secondary markets if they don t like the way the country is handling its economy Current era of capital mobility costs of moving financial assets from one country to another extremely low or nonexistent o Competitive pressures unleashed by US in mid 1970 s o effective elimination of the costs of the selling and buying bonds brokering is not a job anymore o If bond markets lose confidence they can punish that country by selling bonds Reduces the borrowing ability of the country This raises import taxes o If taxes on capital too high it invests in another economy Empowers the Electronic Herd When foreign capital holders lose confidence in a government s monetary policy they tend to sell assets denominated in that currency o Currency depreciates o Government can reassure investors or bring them back by offering higher returns i e push interest rates up o But raising interest rates steeply pushes domestic economy into recession Example Greece Spain Ireland Portugal Cyprus Italy in the Euro crisis These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute Real policy implications international capital markets can sharply constrain country s monetary policy limiting discretion of elected officials and forcing them to push it into recession to reassure creditors Bretton Woods Economic Order Emerges in final stages of World War II 1944 US supports creation of international organizations to ensure economic growth through international trade Impetus from o Great Depression o Emerging battle against Communism o Increasing support for free trade in US Key organizations emerging from o General Agreement on Tariffs and Trade GATT that would become WTO o International Monetary Fund to stabilize international currency markets Countries would lower the value of their currency to make imports cheaper and exports more expensive o International Bank for Reconstruction and Development would become World Bank o Japanese yen inflated by 50 making japanese imports to US cheap and US export to japan expensive International Monetary Fund Pool of capital created by member countries Set up to provide international liquidity didn t work as world relied on Limit exchange rate fluctuations prevent currency wars from Depression that interrupted trade Lender of last resort Help governments in exchange rate crisis stabilize reserves with loans The Power of the IMF Conditionality demands conditions that change economic conditions in country and enhance long term ability to repay o IMF loans as multiple disbursements get partial money then must implement reforms before get more o Often imposes real pain cut tariff barriers cut budget deficits i e raise taxes and cut spending Power of IMF stems from its willingness to lend when no one else will o Good housekeeping seal of approval necessary for private capital to come back in IMF is often the only game in town This is because private capital markets are not willing to lend to governments The IMF get more power this way allowing it to make many rules o some of these are very constricting o Like in Greece they ask to increase taxes and decrease tariffs The US and IMF Voting power not equal in IMF set by relative contribution to Fund US biggest shareholder therefore lots of influence on terms of emergency loans i e bailouts o Charged with promoting Wall Street agenda in 1990 s used bailouts to open up markets to American financial sector US often relaxes conditions for strategic reasons e g Pakistan The 2008 Financial Crisis Why Watershed Event lasting effect on psychology The world stood at the brink of disaster the onset of a new depression Unemployment pushed up to 10 The stock market shed half of its value The US has largely recovered from this Stock market is back all time highs Housing market is back up and unemployment is down o Why did it start it started in the US and spread Stemmed on financial system based on mortgage backed securities they are bonds backed by homes held by citizens It relied on housing markets that were expected to increase over time As houses started to fall so did the value of the bonds Shitty practices in house and financial practices o 2004 2006 banks lent money for people to buy homes to people who would never be able to repay the loan There was an expectation for the houses and land to increase in price So a new loan would be made by remortgaging How US respond part of the problem was inconsistent responses Created expectations of government intervention Bailout of AIG was critical Why bail out the banks Directly inject capital into banks US nationalized banks by lending money and taking a stake Forces banks to insulate using capital What are political challenges associated with bailouts What are some of the larger international political consequences of this crisis world recession as a lot of countries have US treasuries reinforcement of US leadership and failure for others to respond Introduction Development Foreign Aid and ethics International development the global effort by rich and poor countries alike working in tandem to dramatically reduce extreme poverty and want Extreme poverty global inequality is one of the biggest moral issues of our time o Interstate inequality is much greater than intrastate inequality The ethics and politics of development and foreign aid involve several interesting questions o What are the obstacles to development o How best can wealthy countries help poorer countries Does foreign aid work o What are moral obligations if any of individuals and states to address global poverty and inequality Interstate inequality US vs Romania is much greater than the inequality within states o The problem of poverty is much greater outside the US than the inside so it s better to help other What are the obstacles to development Poverty cycle Low incomes Low savings Low investment Low

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