International Relations Notes 3 International Monetary Relations Begins with national context what s the price of money interest rates who sets interest rates national government National Governments Determine currency print bills and mint coins control money supply A national monetary system is a classic public good everyone benefits and no one is excluded goals liquidity stability confidence What are exchange rates why do they matter to exchange with others in a foreign country we need to convert our currency in theirs to do so we need agreement on rules institutions and other prices by which one currency can be traded for another exchange rate the price at which one currency is exchanged for another appreciation a currency increases in value in terms of other currencies depreciation a currency decrease in value in terms of other currencies Exchange rates who gains or loses a depreciation in the exchange rate benefits exporters the price of their product is now lower benefits import competing industries as the price of foreign goods are now higher harms consumers who pay higher prices for imported goods and domestic substitutes An appreciation in exchange rate hurts exporters since their product price is now higher hurts import competing industries as the price of foreign goods are now relatively benefits consumers who pay lower prices for imported goods and domestic cheaper substitutes exporters want lower rates can sell more abroad consumers want higher rates can buy more from abroad How are currency values determined supply and demand relative interest rates play the most important role if interest rates are higher in the US investing in the US is more attractive to invest in the US you need dollars higher interest rates increased demand for US US lower interest rates decreased demand for US US appreciates depreciates governments manipulate interest rates with monetary policy to affect macroeconomic conditions unemployment inflation and economic growth Governments must decide Fix or float a continuum Permanantly fixed government decides fixed but adjustable rates limited float Freely floating market decides Fixed exchange rate government promises to keep values of currency constant in terms of another currency or precious metal floating exchange rate value of currency is determined by market factors mixed system requires government intervention currency can float but only within certain limits currency is fixed to something but can be adjusted Who benefits from the choices Fixed exchange rates cause stability and predictability benefits those engaged in trade as it lowers transaction costs however it reduces a government s ability to have an independent monetary policy floating exchange rates give governments more policy autonomy but increase the cost of international trade and investment those with international economic concerns favor a fixed system those with domestic concerns favor a floating system International Monetary Regimes Two principle features clarity whether currency values are expected to be fixed or floating or mixed establish a common base or benchmark to which currencies can be performed three kinds of benchmarks commodity standard gold standard commodity backed paper standard bretton woods national paper standard current system The gold standard pre 1914 currency backed by gold with exchange rates that didn t change in a sense a common currency for the entire world currency stability helped facilitate growth in international trade and Pro Con investment constrains domestic policy autonomy Necessary condition consensus among the leading financial powers After world war 1 there were attempts to restore the gold standard but the pre war consensus had been replaced by mistrust Interwar Period 1918 1945 Two choices for international monetary cooperation Cooperate pre war gold standard defect interwar period beggar thy neighbor policies of competitive devaluation Who gains from depreciated exchange rates exporters and import competing industries exports increase imports decrease balance of trade improves These policies of defection worsened the great depression The Bretton Woods System 1945 1971 US fixed to gold at rate of 35 oz All other currencies were then fixed to the US US dollar is key reserve currency US was the hegemonic power Willing to provide the public good of a stable international monetary system August 1971 Nixon announces that the US will no longer exchange dollars for gold Major currencies begin to float against each other end of bretton woods system Why US became less willing to pay the cost of leadership others less willing to accept US dominance wanted a voice in running the system Today s international monetary system 1973 Floating rates among major currencies more national monetary autonomy to each government but still must cooperate in times of crisis Multiple Reserve Currencies US dollar Euro Japanese Yen British Pound Institutions have replaced US dominance IMF has become more important main forum for multilateral leadership G7 G20 Choices for the rest of the world Development Central Puzzle Why are some nations rich and some poor Where should we look for the answer Within the nation Domestic factors All the answers to development lie within your own country Outside nations International factors Poor countries can t develop within the current international system dominated by the rich Development example on page 387 about Zambia South Korea and Burma Thailand Three possible explanations Geographic Location geography and climate affect development so why do some countries next to each other have vastly different outcomes geographical determinism not particularly useful International factors since all countries face the same international environment how do we explain variation among countries why some develop and others don t domestic factors and institutions for FLS these are crucially important domestic interests and institutions Role of Government Government policies play a key role in economic development provide public goals physical infrastructure roads airports ports communication networks economic institutions financial and banking systems social infrastructure public health education judicial institutions development is more likely if the gov t can provide its people with credible commitments rule of law secure property rights that will provide public goods Why might governments not provide public goods There are groups with
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