Currency Exchange Rate - Essay Example

 Currency Exchange Rate Introduction In Mexico City in November 2012, finance ministers and bank governors Central Group of Twenty countries declared that "my slow growth. Diale also wishes to limited progress in supporting and rebalancing of demand World. In this regard, we reaffirm our commitment to a more rapid transition to exchange rate regimes more market determined and a flexible exchange rate that reflects the underlying fundamentals. The importance of flexibility in the exchange rate for easier correction of imbalances current account has long been at the heart of international debate. Before the financial crisis World, these debates were focused on global imbalances and the role of exchange rate policies several major Asian and oil-exporting countries with external surpluses. Since the crisis, the challenges facing many emerging and advanced countries Europe have revived interest the study of the relationship between flexibility of the exchange rate and external adjustment - there is deficit or surplus. Frieden (2015) argued that when the exchange rates are flexible, "they evolve quickly, automatically and continuously and thus tend to create corrective movements before tensions cannot accumulate and a crisis erupts. No result in deficit countries, the currency would depreciate, restaurant competitiveness and reducing the gap; in surplus countries, the currency appreciate, reducing the surplus. By cons, in a fixed exchange rate regime, the adjustment in deficit countries would weigh entirely on the rigid lower prices of goods and factors, while surplus countries would not have to resort to an adjustment mechanism. Direct corollary of this argument, external imbalances (surpluses or deficits on current account) are less persistent in floating regimes with fixed rates, which reduces the likelihood that hazardous imbalances appear and end by precipitating a crisis. Discussion The exchange rate of a currency is: is fixed, i.e. constant relative to a base currency (usually the US dollar or the euro), by decision of the State issuing that currency. The rate then can only be modified by a decision of devaluation (or revaluation) of that State (Ajami, 2014). A State may not, however, decide to adopt any exchange rate of its currency. If this exchange rate fixed at too high or too low, the exchange rate will be "attacked" in the foreign exchange market. If the monetary authorities are unable to cope (with their foreign exchange reserves), they will change their parity; is floating and determined for each transaction by the balance between supply and demand in the foreign exchange markets (Yu, Wang & Lai, 2011). This is an interbank market worldwide currencies, less centralized on specific places of quotation and trade, as based on computer links between banks. The exchange rate is: or a spot price, that is to say "spot" for immediate purchases and sales of foreign currency. In general, the currency delivery time is 2 working days during the working days and it may exceed that period if the delivery must be made during the holidays; either a course forward, that is to say "Forward", to exchange transactions at a future due date (the delivery is not made immediately) (Mankiw, 2012). The mission is to manage risk. It is an agreement to fix today the price at which it will buy / sell currency futures. Exchange rates vary widely during the same day, these variations cannot be explained by the theory of purchasing power parity (PPP) (Lien, 2013). In this context of short-term analysis, it is necessary to refer to other explanations. The balances in the valuation of currencies, are measured on the basis of purchasing power parities (PPPs). This is a complex statistical exercise, which is to compare over time the purchase of a consumer-like power in a country and a range of consumer products data with that of another consumer deviation in a different country and intended for a range of consumer products close, but nevertheless corresponding to other local habits lifestyle and cost structure. In practice, it usually uses the US dollar as the currency of the joint index and will thus each time compare the purchasing power of a consumer-type of country X and that of a typical American consumer (Evans, 2011). The purchasing power parity, if it is useful for international comparisons of living standards, where a few error margins cents is not significant, should be used with extreme caution in the market analysis exchange. In the same vein as purchasing power parity, the renowned magazine The Economist has created the Big Mac Index, which compares the price of the famous sandwich with its price in dollar currency in 120 countries (Ajami, 2014). The exchange rate of a currency, which expresses the value of the currency against another currency, can be fixed or floating. A fixed rate is a constant rate, determined with respect to a reference currency (which is usually the US dollar or the euro). This rate is set by a decision of the State issuing that currency and can only be modified by a decision of devaluation or revaluation of that State. A floating rate varies with each transaction depending on supply and demand of both currencies on the foreign exchange market. Thus, the price of a currency increases whenever demand exceeds supply (Frieden, 2015). Note: This system has been adopted by most countries since 1973. Floating exchange rates can significantly vary during a single day, depending on the evolution of expected interest rates in different countries, the relative expected inflation in these countries and other major macroeconomic data. Furthermore, there are the spot price, that is to say, "Cash" for purchases and sales of foreign currency immediate (within 24 or 48 hours), and the course forward, that is to say " forward "for exchange transactions future maturity (often with monthly installments). The financial crises of emerging countries in the 90 (which are all produced in stowage plans in a form or another), large current account deficits of countries Europe of preceding the financial crisis global and ongoing efforts of certain countries the euro zone such as Greece, Portugal and Spain are indicative of a delayed external adjustment more difficult stowage plan. The fact, it is striking that the most recently approved by the IMF agreements was for countries that have an exchange rate regime type directed on the eve of the 2007 crisis (Yu, Wang & Lai, 2011).This configuration is one that several studies reveal the close link between securing the exchange rate and vulnerability to crises, sudden reversals of transactions balances common and growth collapses. We naturally deduces that the rigidity of nominal exchange rate precludes legal timely external adjustment before the emergence of large imbalances triggers of crisis. This argument seems convincing, formal evidence fixed exchange rate prevents external adjustment – and floating exchange rates facilitates. For example, in a large study comparative countries, Caprio (2014) find no link narrow or empirically robust exchange between the regime and the rate at which the imbalances in current account pay. Focusing on countries of the Lien (2013) argue that changes in exchange rates live in the area were at least as compatible with external adjustment effective than those observed for countries outside the euro zone that have adopted floating. In contrast, other studies - the Eurozone or more range General - find evidence that flexible exchange rates indeed affect the external adjustment. For example, for a group of countries in Central and Eastern Europe, Sarno, Frankel and Taylor (2010) note that the flexibility of the exchange rate significantly accelerates pace of adjustment of current account balances. Similarly, for countries in the Eurozone, Evans (2011) finds that trade imbalances have widened and are more persistent since the introduction of the common currency. Considering a wide group of advanced economies, emerging and developing, Caprio (2014) also find that flexibility the exchange rate is very important for external adjustment. One can say without exaggeration that the profession is far reaching a consensus on the role of flexible exchange rates to facilitate external adjustment. So where is the problem? Why do existing studies can they show a relationship between unambiguously flexibility in exchange rates and ease adjustment of the former. We suppose that this is because these studies are based usually on aggregate or composite assessments exchange rate regimes which do not differentiate the degree of flexibility exchange rate between the trading partners. The problem is well illustrated by the case of USA. manifestoment, the dollar fleet and classifications of existing schemes the well characterized. But its exchange rate against the currency number of major trading partners of the United States does not adjust freely. For example, the volatility of the exchange rate between currencies of US and China, accounting for about 15% of US trade was less than 0.5 percentage point ten recent years, while the volatility of the exchange rate of the dollar relative to the currency of some other major partners business of United States, like Canada, Germany, Japan and Mexico, was around 2½ to 3 points (Frieden, 2015). The flexibility of the exchange rate plays an important role, the behavior of the trade balance United States / China should differ from that of other relationships bilateral of United States. This seems to be the case: the deficit United States in respect of other countries has tended to fluctuate, while their deficit regarding China has consistently worsened, having almost tripled ten recent years. There are other examples. In particular, in classification, the countries of the euro area are classified of floating regimes (although 60% of their trade is intra-zone) or fixed rate (although 40% of their exchanges held with countries' fleets’ currency against theirs) (Lien, 2013). The countries whose currency is pegged to an anchor currency are considered to have a fixed exchange rate, even if the value their currency may fluctuate with respect to that of the currency their main trading partners. Given this disparity of relationships between various trading partners, Not surprisingly, that the use of a comprehensive classification and composite exchange rate regimes give misleading results. To correctly determine the effect of stowage plans the external adjustment, it is necessary to consider this relationship by using data on trading partners whose currency is that at which the currency is EFFEC effectively attached (Neelankavil, 2015). To this end, we detailed the relationship exchange between trading partners in 181 countries 1980-2011 and examined the connection external-fit regime through the prism of bilateral relations between pairs of countries and data set includes a classification of bilateral exchange rate regimes fixed rates, intermediate and flood (Mankiw, 2012). For each country in relation to its individual partners commercial. For fixed exchange rate regimes and intermediate (collectively "tie-downs"), we have further differentiated relations direct and indirect between pairs of countries. There is live when a country pegs its stowage currency of another country (anchor currency), and stowage Indirect where countries peg their currency to currency Common anchor, or separate anchor currencies which are themselves attached to a common anchor currency. Thus, for example, Lithuania is considered to have a direct anchoring relationship with the countries of the euro area since the anchor currency in its currency board is the euro, but an indirect relationship with the countries whose currency is it also pegged to the euro (eg Bulgaria) (Yu, Wang & Lai, 2011). Among the various bilateral exchange relationships we examined the flexibility of nominal and real exchange rates – to Assuming that prices are sticky - should be lower in Fixed rate regimes than in intermediate regimes (and, of Naturally, in the floating regime), as they involve a greater change in the nominal exchange rate. Among the If direct or indirect stowage, flexibility of the exchange rate should be greater in indirect stowage plans (for, For example, if the direct connection involves stabilizing parity to plus or minus 1%, an indirect linkage between the currencies of two countries that are linked to the same currency anchor may imply a margin of variation of plus or least 2%) (Evans, 2011). Overall, therefore, the rate flexibility exchange should be at its minimum when a country connected directly its currency to that of another country and to its maximum when currencies float relative to each other. Indeed, it seems to be empirically well - the rate plan fixed with direct lashing is when the volatility of the exchange rate real (bilateral) is the lowest, followed by the intermediate regime with direct lashing. The flexibility of the exchange rate real is at its maximum when the currency of a country fleet relative to that of another. According to Caprio (2014), external adjustment should be faster in a floating regime in a scheme stowage, and accelerated in an indirect stowage in direct lashing (lashings, because indirect permit relatively more flexible exchange rates). Combining data on bilateral exchange relations information on bilateral trade balances, we have obtained empirical results that closely match with the assumptions Friedman. Trade imbalances adjust much more slowly in the stowage plan, direct or indirect, as in floating regimes. The pace of adjustment in indirect stowage plans is, however, faster than in the case of direct lashing. Bone results also show that: Very large bilateral surpluses and deficits adjust more quickly that small imbalances by floating regime, while this trend is not observed in the stowage plans (Evans, 2011). The direction in which the exchange rate regime evolves float is compatible with the correction of imbalances. Thus, the real bilateral exchange rate depreciates for countries showing bilateral trade deficits but is appreciated in the case of surplus countries; this behavior is observed not in the stowage plans. Greater capital mobility weakens the relationship between flexible exchange rate and external adjustment since the flow capital can maintain longer imbalances, even when the exchange rates are flexible. However, the difference in conference at the persistence of trade imbalances between exchange rate regimes remains statistically significant even for the more financially open economies. These results were confirmed by several 'experiences natural "- clearly exogenous changes in the rate system exchange between countries and changes resulting in the dynamic the bilateral trade balance. For example, when France adopted the euro in 1999, the currency of Member countries of the CFA franc zone been automatically secured that of all countries of the euro area (Frieden, 2015). Similarly, since Lithuania the dollar dropped to adopt the euro as anchor currency in its currency board regime in 2002, its trade imbalance against the United States has become less persistent, while its trade imbalance with the euro area has been much more (Neelankavil, 2015). Finally, although the gradual transition from monetary system / European Exchange Mechanism for the euro has not led to a significant decline in volatility of exchange rates. Bilateral these countries, we have indeed found evidence increased persistence of their trade imbalances. Overall, our results, based on panel data as well as natural experiments reveal that diets securement hinder external adjustment. They also put in light the richness and complexity of exchange relations between countries, and it is necessary to take into account in any consideration of flexibility the exchange rate and the rate of external adjustment. Thus as, for example, even if the USA dollar, the New Zealand dollar and the euro are all floating currencies, it is clear from our analysis that external adjustment will be faster for the New Zealand as for the US, which can, in turn, operate faster this adjustment that countries in the euro area (Frieden, 2015). The reason is that the currency of any of the main trading partners New Zealand is not attached to his, while currency several partners the United States is linked to the dollar and that, of course, the countries of the euro area, which perform much exchanges between them have a common currency. The transmission of changes in the exchange rate on inflation has caused an exponential attention from researchers and monetary authorities in recent years. This process occurs by a relationship between the nominal effective exchange rate and consumer prices has been the subject of numerous analyzes, but few of them deal with emerging or developing. These studies can be divided into two broad categories: those which cover only one country and those that span multiple cross (Caprio, 2014). Most studies specific to one country concluded a low impact of changes in exchange rates on prices. Among them and using a regression model single log-linear, the transmission of variations in the exchange rate on inflation is incomplete in Tanzania, that is to say that part only exchange rate fluctuations affects domestic prices. Prove that there there's no evidence of endogeneity between inflation and the exchange rate, thus a simple equation model can deliver robust assessments of the degree of pass changes in the exchange rate on consumer prices. These authors also show that the degree of transmission is crucial that central banks should consider placing the monetary and exchange rate policies. In addition, Evans (2011) built a model of the self-regressive vector unrestricted (variety) to examine the extent to which the Turkish economy was conducted by the transmission of rate changes foreign exchange in the domestic inflationary context. As general point, these two authors chose this model to say that the evolution of the exchange rate seems to precede the inflation level over time. The latter two researchers analyzed the impact of the process of evolution of the exchange rate on consumer prices before and after the adoption of free floating. This description seems to be very important. This description seems to be very important for a case study like Tunisia because it is in transition from a floating regime administered to a pure floating regime. Furthermore, studies covering several countries are strongly in favor of Taylor's argument (2000) that states, using a model of corporate behavior and relying on a reduced variety, a credible regime of low inflation ready to low impact, conversely, the persistence of high inflation is positively correlated to the level of impact. Mankiw (2012) are based on quarterly data from 1979 to 2000 and using a log-linear regression find that the degree of impact is positively correlated to inflation. In the same spirit and with the same econometric method, this degree is positively associated with average inflation rates, but the relationship is nonlinear because the degree of impact increases with inflation but at a rate that decreases. Using a large sample of countries, Sarno, Frankel and Taylor (2010) show that in a small open economy with a high impact of the exchange rate, there is a significant trade-off between output volatility and inflation volatility. If the results of Lien (2013) indicate that inflation dominates other macroeconomic variables when it comes to explaining differences in impact between countries and using a sample of 71 countries, found that the most important variable to explain the impact of exchange rate misalignment in the real exchange rate of emerging countries and the initial inflation in developed countries. In the European Union, the euro area is where unezone monetary exchange rates of member countries were irrevocably fixed, local currencies have been replaced by a common currency. However, the euro is in a floating exchange rate vis-à-vis most other currencies. Outside the euro zone, some states such as the three Baltic countries and Bulgaria, have a fixed rate system in relation to the euro. Others, such as Poland or Romania have floating exchange rate regimes and the countries of the European non-EU candidates for entry in the euro zone (United Kingdom, Sweden, Denmark). Under the floating exchange rates, the US and the euro zone have adopted a laissez-faire policy vis-à-vis the evolution of change. Ainsi the European Central Bank rate is not involved in the foreign exchange market to influence the exchange rate of the euro. Since 2005, China has meanwhile opted for a managed floating exchange rate with reference to a basket of currencies. Between July 2005 and July 2008, the yuan (also called the renminbi) has appreciated about 21% against the dollar. But this system was suspended in July 2008, is recovering from the fixed link between the yuan and dollar, on behalf of the need to protect the Chinese economy against the consequences of the global financial crisis (Frieden, 2015). This raises discontent on the side of China's economic partners -the United States head-on as this control exercised by the People's Bank of China (PBOC) on the national currency leads them according to an undervaluation of the yuan on the foreign exchange market. Many analysts believe that in a floating exchange rate, the yuan would be much stronger today against other currencies including the USD, and it is therefore a form of unfair trade competition from China who uses the situation to export his goods and services at lower cost (Shenkar, Luo, & Chi, 2015). More recently, the currency market was confronted with a new case of intervention by a central bank on exchange. Indeed, the Swiss National Bank decided to set a floor on the price performance of the Swiss franc against the euro and the US dollar following a strong appreciation of its currency in 2011; increase largely due to uncertainties on the repayment of sovereign debt in the euro area and the United States. In the case of countries that want to keep a stowage plan for economic or political reasons, what policy options they have to make an adjustment and maintain competitiveness? When the nominal exchange rates are fixed, the motion in real exchange rates must be accompanied by price flexibility. The key is to eliminate rigidities Structural on labor markets and products (e.g. by increasing competition and operating reforms budgetary encouraging work) and to pursue a policy prudent fiscal and monetary to prevent an overvaluation the real exchange rate in the first place. For countries seeking emergency to restore their competitiveness but face large external imbalances and beautiful sore blow to obtain external financing, they have to choose between an "external" devaluation or "internal". By external devaluation, a change of the nominal exchange parity means (by e.g. the devaluation of the CFA franc in 1994), which attempts to correct the relative prices of exports and imports, resulting in a de immediate preciation real exchange rates. The internal devaluation, meanwhile, has the same effects as the devaluation of the exchange rate rated on the real exchange rate, but through a decline domestic prices (for example the strategy applied by Latvia and some countries in the euro area during the recent crisis). It is change the tax structure (by focusing more on tax consumption and less labor, for example), or lower production costs (by reducing wages, in particular). The external devaluation can be especially difficult in presence of "check" effects - high amounts of debt referred held by the public or private sector - that could harm economic recovery and eventually force the country to abandon the stowage plan. Finally, external adjustment by devaluation Internal is likely to be slow and painful, especially if the private sector is heavily indebted and faces financial constraints. In either case, the choice is difficult. It requires that the country evaluates in detail the benefits, risks and options before tie their hands in a stowage plan the exchange rate. Conclusion The exchange rate of a currency is: is fixed, i.e. constant relative to a base currency (usually the US dollar or the euro), by decision of the State issuing that currency. Exchange rates vary widely during the same day, these variations cannot be explained by the theory of purchasing power parity. The exchange rate of a currency, which expresses the value of the currency against another currency, can be fixed or floating. The use of a comprehensive classification and composite exchange rate regimes give misleading results. To correctly determine the effect of stowage plans the external adjustment, it is necessary to consider this relationship by using data on trading partners whose currency is that at which the currency is EFFEC effectively attached. Combining data on bilateral exchange relations information on bilateral trade balances, we have obtained empirical results that closely match with the assumptions Friedman. However, the transmission of changes in the exchange rate on inflation has caused an exponential attention from researchers and monetary authorities in recent years. In the European Union, the euro area is where unezone monetary exchange rates of member countries were irrevocably fixed, local currencies have been replaced by a common currency. When the nominal exchange rates are fixed, the motion in real exchange rates must be accompanied by price flexibility. References Ajami, R. A. (2014). International business: A course on the essentials. Armonk: M.E. Sharpe,Inc Caprio, G. (2014). The evidence and impact of financial globalization. Boston, Massachusetts: Credo Reference, Boston Cherunilam, F. (2010). International business: Text and cases. New Delhi: PHI Learning Private Limited. Dlabay, L. R., & Scott, J. C. (2011). International business. Australia: South-Western. Evans, M. D. D. (2011). Exchange-rate dynamics. Princeton: Princeton University Press. Frieden, J. A. (2015). Currency politics: The political economy of exchange rate policy. Princeton: Princeton University Press. Institute of Management Accountants. (2015). Wiley CMAexcel Learning System exam review 2016: Self-study guide. Lien, K. (2013). The little book of currency trading: How to make big profits in the world of forex. Hoboken, N.J: Wiley. Mankiw, N. G. (2012). Principles of macroeconomics. Mason, OH: South-Western Cengage Learning. Neelankavil, J. P. (2015). International business research. Oxfordshire, [England]; New York: Routledge Sarno, L., Frankel, J. A., & Taylor, M. P. (2010). The economics of exchange rates. Cambridge [u.a.: Cambridge Univ. Press. Shenkar, O., Luo, Y., & Chi, T. (2015). International business. London: Routledge. Yu, L., Wang, S., & Lai, K. K. (2011). Foreign-exchange-rate forecasting with artificial neural networks. New York: Springer. Read More