25 Econ Midterm 2

Front 1

Foreign currency

Back 1

Foreign bank notes, coins, and bank deposits

Front 2

Foreign exchange market

Back 2

Market in which the currency of one country is exchanged for the currency of anouther

Many traders, no restrictions, competitive

Front 3

Foreign exchange rate

Back 3

The price at which one currency exchanges for another

Currency depreciation vs currency appreciation

Front 4

Factors on purchase of Canadian $

Back 4

1. Exchange rate

2. World demand for Canadian exports

3. Interest rates in Canada and other countries

4. The expected future exchange rate

Front 5

Derived demand

Back 5

Demand for dollars

People purchase Canadian $ so that they can buy Canadian produced goods and services or assets

Front 6

Exchange rate influences quantity of Canadian dollars demanded because

Back 6

Exports effect

Expected profit effect

Front 7

Exports Effect on demand

Back 7

High value exports --> High demand for Canadian $

Low exchange rate --> High volume of exports

Front 8

Expected profit effect on demand

Back 8

Larger the expected profit from Canadian $ --> Higher demand for $

Depends on exchange rate

Low rate today means a higher expected profit

Front 9

Quantity of Canadian dollars supplied in foreign market depends on

Back 9

1. Exchange rate

2. Canadian demand for imports

3. Interest rates in Canada and other countries

4. Expected future exchange rates

Front 10

Exchange rate influences quantity of Canadian dollars supplied because

Back 10

Import effect

Expected profit effect

Front 11

Market Equilibrium

Back 11

High exchange rate --> $ surplus drives it down

Low exchange rate --> $ shortage drives it up

Quickly pulled to equilibrium

Front 12

Changes in demand for Canadian dollars

Back 12

world demand for canadian exports

canadian interest rate relative to the foreign interest rate

expected future exchange rate

Front 13

Canadian interest rate differential

Back 13

Canadian interest rate minus the foreign interest rate

When this rises - demand for $ increase

Front 14

Influences on changes in supply of $

Back 14

Canadian demand for imports

Canadian interest rates relative to the foreign interest rate

Expected future exchange rate

Front 15

When does the actual exchange rate change?

Back 15

When it is expected to

Fundamental influences

Front 16

Arbitrage

Back 16

Buying in one market and selling for a higher price in anouther market

Ensures that exchange rate is the same everywhere

Causes : Interest rate parity, purchasing power parity

Front 17

Return on currency equals

Back 17

interest rate plus expected rate of appreciation over a given period

Front 18

Interest rate parity

Back 18

When the rates of returns on two currencies are equal

Market forces achieve this quickly

Front 19

Purchasing power parity

Back 19

Two quantities of money can buy the same quantity of goods and serves - equal value of money

Front 20

Big Mac Index

Back 20

3.57/4.09 = 0.87

Exchange rate 1:1

0.87/1 = 13% overvalued

Front 21

Real exchange rate

Back 21

Relative price of Canadian produced goods and services to foreign produced goods and services

RER= (nominal exchange rate x $price level)/ foreign price level

Front 22

Short run real exchange rate

Back 22

$ and foreign prices don't change

exchange can change

Front 23

Exchange rate policies

Back 23

Flexible exchange rate

Fixed exchange rate

Crawling peg

Front 24

Flexible exchange rate

Back 24

permits the exchange rate to be determined by demand and supply with no direct intervention in the foreign exchange market by the central bank

Front 25

Fixed exchange rate policy

Back 25

Pegs exchange rate at a value decided by the government or central bank and is achieved by direct intervention in the foreign exchange market to block unregulated forces of demand and supply

Persistent intervention cannot be sustained

Front 26

Crawling peg policy

Back 26

Exchange rate follows a path determined by a decision of the government or central bank and is achieved by active intervention in the market

Avoids wild swings in exchange rate

Front 27

Balance of payments accounts

Back 27

Records international trading, borrowing, and lending

1. Current account

2. Capital and financial account

3. Official settlement account

Sum of these three = 0

Front 28

Current records account

Back 28

Receipts from exports

Payments for imports

Net interest paid abroad

Net transfers such as foreign aid payments

=exports-imports+net interest income +net transfers

Front 29

Capital and financial account

Back 29

foreign investment in Canada minus Canadian investment abroad

Front 30

Official settlements account

Back 30

Change in Canadian official reserves

Front 31

Canadian official reserves

Back 31

Government holdings of foreign currency

Increase in reserves --> settlements negative

Front 32

Debtor nations / creditor nations

Back 32

Tend to borrow more/ lend more

US is the worlds largest debtor nation

Net borrower is not a problem if funds used to finance capital that will increase income, bad if finances consumption

Front 33

Government sector surplus or deficit

Back 33

Taxes - government expenditure (T-G)

Front 34

Private sector surplus or deficit

Back 34

Saving - Investment (S-I)

Front 35

Net exports =

Back 35

T-G + S-I

Front 36

Short run vs long run exchange rate

Back 36

short run change in nominal changes account deficit

long run no influence