Economics Unit 3

Pros of Floating exchange rate

• Automatic adjustment - reverses changes due to supply and demand

• Monetary Policy doesn't have to be used to fix exchange rate - BoP surplus and deficit doesn’t affect money flow

Cons of Floating exchange rate

• Exchange rate volatility - currency values change frequently, creating uncertainty for international trade

• Heavily affected by speculation - investors trading currencies can cause sudden movements - e.g if AUD is speculated to depreciate, currency traders will sell AUD, increases AUD supply

Pros of Fixed exchange rate

• Reduced Uncertainty/high predictability

• Being fixed to a foreign currency decreases the inflation of imports from that country

Cons of Fixed exchange rate

• Requires large foreign reserves - the government must buy/sell currencies to maintain the exchange rate which can be expensive

• Monetary has more effect - household may have to face increased interest rates (leading to domestic inflation) so that the exchange rate can depreciate

What is Current Account

 Flow of goods, services, and income between countries.

• Balance of Goods and Services

• Net Primary Income Account

• Net Secondary Income Account

What is the Capital and Financial Account

Flow of income and assets between countries.

• Capital Account

• Financial Account

What is Balance of Goods and Services

exports-imports

What is Net Primary Income Account

credits and debits from return of investment

What is Net Secondary Account

unconditional foreign aid (anyone sending money overseas)

What is Capital Account

conditional foreign aid, debt forgiveness, exchange of non-money assets

What is Financial Account

credits and debits from initial investment or borrowing and lending money, buying and selling assets, repayment of debt

What is a Net exporter

net lender - we export more than we import

What is a net importer

net borrower - we import more than we export - net payer of dividends to other countries

What is terms of trade

• (Export price index / Import price index) x 100