POLSCI 160 Lecture 29: Monetary Policy 4
5 Jan 2017
School
Department
Course
Professor
Winners and Losers in Exchange Rate Policy
● Fixed Rates
○ Benefits those in international business
■ International investors, exporters
■ Because there is no exchange rate risk, therefore no risk for businesses
○ Hurts those solely involved in the domestic economy
■ Import competitors (producers of domestically consumed products),
producers of nontradables (ex: haircuts)
■ Because exchange rate risk has been eliminated for foreign competitors
● Floating Rates (opposite of fixed rates)
○ Benefit those in involved in only the domestic economy
○ Hurt those involved in the international economy
● Overvalued Currency (high exchange rates)
○ Benefits domestic investors and producers of nontradables
■ Because people can buy more foreign goods that are cheaper
○ Hurts those who compete internationally
■ Because their products are more expensive for consumers in other
countries to buy
● Undervalued Currency (low exchange rates) (opposite of overvalued currency)
○ Benefits those who compete internationally
○ Hurts those who are only involved in the domestic economy
Monetary Systems
● Requirements of a fixed rate system
○ A central currency that becomes the primary source of currency reserves
■ Must be widely accepted
○ Government must defend the value of their currency
■ Must be willing to spend reserves to support the exchange rate
■ Cannot devalue just for political gain
○ Must have few beggar-thy-neighbor policies: attempts to avoid the political
pain of a loss of economic activity through trading partners
■ Enacted through devaluing one’s currency or trade barriers
■ If too many states do this, fixed rate systems falter
○ Leading country must be able to defend its currency value
■ Bank of England failed in 1931, US dollar failed in 1971
● Floating rate systems
○ States can now choose to fix or float their currencies
■ Or a hybrid system (through the use of a peg value or band)
■ Hybrids try to discourage speculation without committing the central bank
to fightin small movements in the currency value
○ States face international pressure in their monetary stance
Key Points
● States exposed to global markets (small states) prefer devaluation when boosting their
economy, large states prefer tariffs
find more resources at oneclass.com
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Document Summary
Because there is no exchange rate risk, therefore no risk for businesses. Hurts those solely involved in the domestic economy. Import competitors (producers of domestically consumed products), producers of nontradables (ex: haircuts) Because exchange rate risk has been eliminated for foreign competitors. Benefit those in involved in only the domestic economy. Hurt those involved in the international economy. Benefits domestic investors and producers of nontradables. Because people can buy more foreign goods that are cheaper. Because their products are more expensive for consumers in other countries to buy. Undervalued currency (low exchange rates) (opposite of overvalued currency) Hurts those who are only involved in the domestic economy. A central currency that becomes the primary source of currency reserves. Government must defend the value of their currency. Must be willing to spend reserves to support the exchange rate. Must have few beggar-thy-neighbor policies: attempts to avoid the political pain of a loss of economic activity through trading partners.
