Exchange Rate Systems Overview

Exchange Rate Systems

• Floating Exchange Rate System: Currency value determined by market forces.
• Managed Float System: Market forces determine value, but government manages.
• Fixed Exchange Rate System: Currency values fixed against each other.
• Pegged Exchange Rate System: Currency pegged to a reference currency.
• Volatile Exchange Rates: Currency fluctuations not related to fundamentals.
• European Monetary System (EMS): Fixed exchange rate system used in Europe before 1999.
• Gold Standard: Currencies pegged to gold, guaranteed convertibility.
• Gold Par Value: Amount of currency needed to buy one ounce of gold.
• Jamaica Agreement (1976): Established floating exchange rates as acceptable.
• Bretton Woods System: Fixed exchange rate system for post-war economic growth.

Currency Exchange Concepts

• Currency Swap: Simultaneous purchase/sale of foreign exchange for different dates.
• Spot Exchange Rates: Current exchange rate for currency conversion.
• Forward Exchange Rates: Agreement to exchange currency at a future date.
• Arbitrage: Profiting from price differences in different markets.
• Law of One Price: Identical products must sell at same price in all countries.
• Purchasing Power Parity (PPP): Basket of goods prices equivalent in different countries.

Exchange Rate Risks and Exposure

• Foreign Exchange Risk: Potential negative consequences of exchange rate changes.
• Transaction Exposure: How exchange rate fluctuations impact individual transaction income.
• Translation Exposure: Impact of exchange rate changes on financial statements.
• Economic Exposure: Impact of exchange rate changes on future international earnings.
• Hedging: Risk management strategy to offset exchange rate losses.
• Lead and Lag Strategies: Managing receivables/payables based on expected currency movements.
• Central Control of Exposure: Managing exposure centrally for better resource protection and strategy.

Financial and Currency Crises

• Financial Crises: Major disruptions in financial markets or institutions.
• Currency Crisis: Speculative attack on a currency causing depreciation.
• Banking Crisis: Loss of confidence in banks, leading to runs.
• Foreign Debt Crisis: Inability to meet foreign debt obligations.
• Asian Currency Crisis (1997): Financial crisis affecting Southeast Asian countries.
• Moral Hazard: Increased risk-taking due to safety nets.
• IMF Bailout: Financial assistance from the IMF with conditions.
• Public Spending Cuts: Reductions in government spending.
• Dollar-Based Debt: Debt denominated in U.S. dollars.

Foreign Direct Investment (FDI)

• Foreign Direct Investment (FDI): Direct investment in foreign production/marketing facilities.
• Inward FDI: Foreign investment entering a country.
• Outward FDI: Investment by a country's residents in other countries.
• Greenfield Investments: Establishing new operations abroad.
• Mergers & Acquisitions (M&A): One company acquiring another or merging.
• Stock of FDI: Total accumulated value of foreign-owned assets.
• Flow of FDI: Amount of FDI over a specific period.
• Strategic Behavior: Competitive behavior between global firms.
• Resource Transfer Effects: Flow of capital, technology, and management to a host country.
• Employment Effects: Job creation in the host country due to FDI.
• Balance of Payments Effects: FDI's impact on a country's current account.
• Adverse Effects of FDI on Competition: Potential for excessive MNE power, impacting competition.

Government Influence on FDI

• Government Influence (Host Country): Incentives/restrictions to influence FDI.
• Government Influence (WTO): Push for FDI regulation liberalization.
• Government Influence (Home Country): Encouraging outward FDI through support programs.
• Government Influence restricting Outward FDI: Limit capital outflows and manipulate tax rules.

Regional Economic Integration

• Regional Economic Integration: Agreements among countries to lower trade barriers.
• Free Trade Area: Goods traded without tariffs among members.
• Customs Union: Free trade among members with a common external policy.
• Common Market: Free trade, common external policy, free movement of factors.
• Economic Union: Free trade in goods and factors, common external policy, currency, and tax harmonization.
• Political Union: Centralized political structure coordinating member policies.
• Trade Creation: Increased trade between members due to agreement.
• Trade Diversion: Trade shifts from non-member countries to members.

Trade Agreements and Blocs

• European Union (EU): Regional economic bloc promoting cooperation.
• European Free Trade Association (EFTA): Includes Norway, Iceland, Liechtenstein, & Switzerland.
• NAFTA (North American Free Trade Agreement): US-Canada-Mexico trade agreement.
• USMCA (United States-Mexico-Canada Agreement): Updated trade agreement.
• ASEAN (Association of Southeast Asian Nations): Organization promoting economic cooperation in Southeast Asia.
• MERCOSUR: Trade bloc comprised of Brazil, Argentina, Paraguay, and Uruguay.
• CARICOM (Caribbean Community): Organization promoting economic integration in the Caribbean.
• APEC (Asia-Pacific Economic Cooperation): Forum promoting economic cooperation among 21 Pacific Rim countries.

Theories and Views on FDI and Trade

• Free Market View: Countries specialize based on comparative advantage.
• Radical View: FDI is imperialist exploitation.
• Pragmatic Nationalism: Allow FDI if benefits outweigh costs.
• Eclectic Paradigm: FDI driven by location-specific advantages.
• Externalities: Knowledge spillover from firm clustering in similar locations.

Theories of Exchange Rate Determination

• Efficient Market School: Market prices reflect all available information.
• Inefficient Market School: Market prices don't reflect all available information.
• Fundamental Analysis: Analyzing economic models to predict exchange rates.
• Technical Analysis: Using historical data to predict exchange rate trends.

Miscellaneous Economic Concepts

• GDP (Gross Domestic Product): Total economic output of a country.
• Agricultural Subsidies: Government support for farmers.
• Intellectual Property Rights: Legal protections for innovations.
• Tariffs: Taxes on imported goods.
• Cross-border Services: Services traded internationally.
• Multilateral Cooperation: International collaboration for mutual benefit.

Economic and Financial Concepts

• Hyperinflation: Rapid, uncontrollable price inflation.
• Excess Capacity: Production exceeds demand.
• Banking Crisis: Banks face liquidity shortage or bankruptcy risk.
• Chaebol: Large family-owned conglomerates in South Korea.

Other Terms

• Bretton Woods: International monetary system.
• IMF: International Monetary Fund, providing financial assistance.
• World Bank: Promotes economic development and reconstruction.
• Balance-of-trade equilibrium: Exports equal imports.
• Monetary Policy Autonomy: Ability to control money supply and exchange rates.
• Monetary Discipline: Controlling currency inflation.
• Trade Balance: Difference between a country's exports and imports.
• Exchange Rate: Value of one currency in terms of another.
• Foreign Exchange Reserves: Government-held foreign currency for exchange rate stability.