Sunday, May 17, 2015

Unit 7 - Foreign Exchange Market

  • The buying and selling of currency. 
    • EX: In order to purchase souvenirs in France, it is first necessary for Americans to sell (supply) their dollars and buy (demands) Euros. 
  • The exchange rate (e) is determined in the foreign currency markets. 
  • Always change the D line on the one currency graph, the S line in the other currency graph 
  • Move lines of two currency graphs in the same direction and you will have the correct answer. 
  • If D on one graph moves up then so will the S on the other graph. And same if D on one graph moves left then S on the other graph will also move left. 
Changes in Exchange Rates:
-Exchange rates are a function of the supply and demand for currency. 
-Increasing of supply in a currency will make it cheaper to buy one unit of that currency. 
-Decreasing in supply of a currency will make it more expensive to buy one unit of that currency. 
-Increase in demand for a currency will make it more expensive to buy one unit of that currency. 
-Decrease in demand for a currency will make it cheaper to buy one unit of that currency. 

Appreciation: occurs when the exchange rate of that currency increases 

Depreciation: occurs when the exchange rate of that currency decreases. 

Exchange Rate Determinants: 


  • Consumer taste 
  • Relative income 
  • Relative price level 


Unit 5 & 6 - Supply Side Economics

-The belief that the AS curve will determine levels of inflation, unemployment, and economic growth
-To increase the economy the AS curve will have to shift to the right which would benefit the company first.
-Supply side economists focus on marginal tax rates.

Marginal tax rates: amount paid on the last dollar earned or the additional dollar earned.
-By reducing the marginal tax rate, supply siders believe that you will encourage more people to work longer and forgo leisure time.
Lower taxes are incentives for workers to invests in our economy.

1.Supply side economists
-Supports policies that promote GDP growth by arguing that high marginal tax rate along with our current system of transfer payments provide disincentives to work, invest, innovate, and undertake entrepreneurial ventures.
-People to increase savings and therefore create lower interest rates and increase business investments.

2. Supply side economics (Raeganomics)
-Lowered the marginal tax rate to get the U.S not in a recession ---> Deficit

Laffer curve: it is a trade off between tax rates and government revenue
-It is used to support the supply side economics argument.

Criticism of the laffer curve:
1. researchers suggest that the impact on tax rates on incentives to work, invest, and to save are small.
2.tax cuts also increase demands.

3. where the economy is actually located on the curve is yet to be located on the curve is yet to be determined.


Unit 5 & 6 - Short Run Aggregate Supply and Long Run Aggregate Supply

Short run aggregate supply (SRAS)
-Nominal Wages: the amount of money received per hour, per day, or per year.
-Sticky Wages: this is where the nominal wage level is set according to an initial price level and does not vary.
-Time is too short for wages to adjust to the price level.
-Workers may not be aware of changes in their real wages due to inflation and have adjusted their labor supply decisions and wage demand accordingly. 





Price level
Wage level
Employment level
Implications
Keynesian/Horizontal
Fixed
Fixed
Flexible
Dep. On change in employment.
Intermediate
Flexible
Fixed
Flexible
Dep. On change in price level and employment.
Classical or Vertical
Flexible
Fixed
Fixed
Dep. On change in price level.

Long run aggregate supply (LRAS)
-Flexible price level and wage
-Time long enough for wages to adjust to the price level
-Both offset each other

*Phillips curve represents the relationship between unemployment and inflation.*
-Trade off between inflation and unemployment that only occurs in the short run.

Long run Phillips curve:
-occurs at the natural rate of unemployment represented by a vertical line at 4-5 %.
-There is no trade off between unemployment and inflation in the long run which means that the economy produces at the full employment level.
-The long run phillips curve will only shift if the LRAS curve shifts, otherwise it is assumed to be stable.

NRU = Seasonal, Frictional, Structural

Major LRAS assumption:
-The more worker benefits create higher natural rates and fewer worker benefits create lower natural rates.

Short run phillips curve:
-Inverse relationship between unemployment and inflation.
-It has relevance to Okuns law
-Since wages are sticky inflation changes, moves the points on the SRPC. 
-If inflation persist and the expected rate of inflation rises, than the entire SRPC moves upwards causing stagflation.
-If inflation expectations drop due to new technology or economic growth then the SRPC moves downwards.

Aggregate supply shocks cause both the rate of inflation and the rate if unemployment to increase.
Supply shock - rapid and significant increase in resource cost.

Misery index: the combination of inflation and unemployment in any given year.
-Single digit misery is good

The Long Run Phillips Curve
-Because long run Philips curve exists at the natural rate of unemployment, structural changes in the economy that affect unemployment will also cause LRPC to shit
-Increase in unemployment will shift LRPC  to the right
-Decrease in unemployment will shift LRPC to the left

*SRAS and SRPC are opposite*

Stagflation: A period of high inflation and high unemployment occurring at the same time.
EX. Baby boom
       Women's movement
       Civil rights movement
       Vietnam war ends
       Oil embargo of 1973 and 1979

Disinflation:Reduction in the inflation rate from year to year
-Nominal wages increase during this time

Deflation: A situation in which there is an drop in the price level.

Saturday, May 16, 2015

Purchasing Power Parity

Purchasing power parity:
-When currency rates are set by international markets changes will be based on the actual purchasing power of the currency.
Ex. U.S dollar to Euro rate is $1.5 to 1 euro than each $1.50 would buy 1 euro, however if an item in the U.S cost $1.5 and then cost more or less than one euro the parity is lost 
-Markets will adjust quickly in floating rates or pressure for change will occur in fixed rate

Why do we exchange currencies?
-Invest in other countries
-Buy stocks and bonds 
-Build factories or stores in other markets
-Speculate on currency values
-Hold currency in bank account for future exports imports and future business loans
-Control excessive imbalances 



Comparative Advantage vs. Absolute Advantage:

Comparative- when a country's production of a good is produced at a lower opportunity cost
Individual/national- exists when an individual or nation can produce a good/service at a lower opp. cost than can another individual or nation
Lower opportunity cost

Absolute- when a country's cost of resources is less than another country
Individual- exists when a person can produce more of a certain goes / service in the same amount of time
National- exists when a country can produce more of a good/service than another country can in the same time period
Faster more efficient

Terms of Trade:
The ratio at which a country can trade domestic products for imported ones
Exchange Rates
The ratio at which two currencies are traded
Economic Integration
Occurs when two or more nations join to form a free trade zone
European Union
European trading that consists of 27 nations that have dropped all tariffs and trade barriers

Input problem vs. Output problem:
Input- what can be produced using the least amount of resources land or time
A chosen item/forgone item
Ex. Bread v. Beans 
Lowest opportunity cost

Output- production
What they give up/what is produced 


Unit 7 - The Balance of Payments

Def: A measure of money inflows and outflows between the United States and the rest of the world (row)
-Inflows are referred to as CREDITS
-Outflows are referred to as DEBITS

The balance of payments is divided into three accounts:
  1. Current account
  2. Capital/financial account
  3. Official reserves account


Double entry bookkeeping:
-Every transaction in the balance of payments is recorded twice in accordance with standard accounting practice.  
Ex: US manufacturer john Deere exports 50 million worth of farm equipment of Ireland 
-A credit of 50 million to the current account
-Debit of 50 million to the capital financial account
-Notice that the two transactions offset each other(should theoretically equal zero) 

Current account :
-Balance of trade or net exports
Exports of goods services- imports of good/services
Exports create a credit to the balance of payment 
Imports create a debit of the balance of payments 
-Net foreign income 
Incomes earned by us owned foreign assets- income paid to foreign held us assets
-Net transfers
Foreign aid-a debit to the current account 
Ex: Mexican migrant worker send back money 

Capital/financial account:
The balance of capital ownership: Includes the purchase of both real and financial assets
-Direct investment in the U.S is a credit to the capital account
Ex: The Toyota factory in San Antonio 
 -Direct investment by us firms/individuals in a foreign country are debits to the capital account
-Purchase of foreign financial assets represents a debit to the capital account 
Ex: Warren buffet buys stock in Petro china.
-Purchase of domestic financial assets by foreign represents a credit to the capital account
Ex: The United Arab emirates sovereign wealth fund purchases at large stake. 

Relationship between current and capital account:
-The current account and the capital account should zero each other out
That is if the account has a negative balance (deficit) then the capital account should then have a positive balance (surplus)

Official reserves:
-The foreign currency holdings of the U.S federal reserve system.
-When there is a balance of payments surplus the fed accumulates foreign currency and debits the balance of payments.
-When there is a balance of payments deficit the fed depletes its reserves of foreign currency and credits the balance of payments.
-The official reserves zero out the balance of payments.

Active vs. Passive official reserves:
-The U.S is passive in its use of official reserves. It does not seek to manipulate the dollar exchange rate
-The people’s Republic of China is active in its use of official reserves. It actively buys and sells dollars in order to maintain a steady exchange rate with the U.S.


Balance of Trade:
Goods and services exports - goods and services imports
-Deficit- imports is greater than exports
-Surplus- exports is greater than imports 
Unofficial way of calculating trade: 
Goods exports + goods imports
Balance of goods and services:       
Goods imports + service imports 
Current account:
Balance of trade + net investment + net transfers 
Capital account:
Foreign purchases of U.S assets + U.S purchases of assets abroad 
Official reserve:
Capital account balance + current account balance