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Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Outline
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Introduction The model Assumptions formulation Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis If investors didnt anticipate the end of pegging If investors correctly anticipate events Conclusion
Yeganeh Forouheshfar A Model of Balance-of-Payments Crises
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Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Introduction:
There are different ways to peg the exchange value:
Open market operation. Intervention in the forward exchange market. Direct operations in foreign assets.
Limits of pegging. Crisis in the balance of payment When the government is no longer able to defend a xed parity A standard crisis. Speculative attack (in the model).
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Assumptions formulation
A macroeconomic model:
The model was developed by Kouri (1976) Assumptions: Small country producing a single composite tradable good. The PPP holds : P = sP P is xed we can set P = 1 P=s We have fully exible prices and wages output is always at its full employment Y . Investors have choice between domestic and foreign money. Both currencies bare 0 nominal interest rate. Foreigners do not hold domestic money.
Yeganeh Forouheshfar A Model of Balance-of-Payments Crises
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Assumptions formulation
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Assumptions formulation
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
The dynamic system in the state variables: The dynamic system in the state variables = m = g (m/F ) m F = Y G C(Y T , m + F )
A Model of Balance-of-Payments Crises
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Note : Real money supply depends positively on the stock of foreign money and is independent of the nominal stock of domestic money = The price level is proportional to the money supply and negatively related to F P = M.G(F )
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
The point when the balance-of-payment-crisis begins is when the speculators anticipate an abandonment of the xed exchange rate, it is always before the government would have run out of reserves in the absence of speculation! why?
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
At the instant that reserves are exhausted Price level Demand for domestic money price level jumps.
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
M F
M M = P R P F =F +R
Yeganeh Forouheshfar A Model of Balance-of-Payments Crises
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
L(0)W R G W L(0)W +R
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
If investors didnt anticipate the end of pegging If investors correctly anticipate events
Yeganeh Forouheshfar
Introduction The model Dynamic behavior with a exible exchange rate Dynamic behavior with a xed exchange rate The anatomy of balance-of-payments crisis Conclusion
Conclusion:
The balance-of-payment crisis are a natural outcome of maximizing behavior by investors. Many kind of uncertainty could be introduced (R1 primary reserve, R2 secondary reserve) Limitations
Highly simplied macroeconomic model. The assumption that there are only 2 assets available is an unrealistic constraint on the possible action of the government.
Yeganeh Forouheshfar
Appendix
Paul Kurgman. A model of balance-of-payment crisis. Journal of Money, Credit and Banking , 11(3): 311325,1979. Kouri, Pentti J.K. The exchange rate and the balance of payments in the short run and in the long run: a monetary approach Scandinavian Journal of Economics , 78 :280304, 1978.
Yeganeh Forouheshfar