Complete The BOP Work And Analyze Its Implications For Curre

Complete The Bop Work and Analyze Its Implications for Currency Policy

International Economics: Part I: Short answer. 1. Complete the BOP worksheet. Which item(s) are particularly problematic for this country? Balance of Payments Statement Current Account Exports of goods 1000 Imports of goods 800 Balance on Goods Exports of Services 400 Imports of Services 200 Balance on Services Trade Balance Investment Income Received 50 Investment Income Paid 1000 Balance Transfers Foreign Aid Received 100 Balance Balance on Current Account Capital and Financial Account Net Capital Transfers 0 Net Purchases of Domestic Financial Assets 300 Net Purchases of Foreign Financial Assets 500 Foreign Direct Investment 50 Balance on Capital and Financial Account w/0 CB Balance Prior to Central Bank Transactions Purchases of foreign exchange Sales of foreign exchange Total Balance 2.

Show the likely impact of the current BOP situation on the exchange rate in the absence of central bank transactions (you may use either the market for home currency or the market for foreign exchange but you must be clear and consistent in your answer). 3. Explain how a devaluation might under some circumstances correct a BOP deficit? Why would that be unlikely to occur given this particular balance sheet? 4. Assuming this country wishes to maintain a fixed exchange rate, show the impact of central bank transactions in the market for foreign exchange and provide a brief explanation for your graph. 5. Suppose the Central Bank runs out of foreign exchange. Show what will happen in the foreign exchange market and provide a brief explanation of your graph. Part 2: Short Essay around 2 pages 6. A country wishes to maintain parity in nominal terms for its currency in exchange for gold bullion. However, its inflation rate is above that of the rest of the world. Will this country most likely have a current account deficit or surplus? Explain. Using the quantity theory of money and the AD-AS diagram, show and explain how this country must adjust its current account situation and the likely impact of this adjustment on the domestic price level, level of output and employment. What would be the advantage of an international lender of last resort? What might be a disadvantage? Part 3: A little bit longer essay around 3 pages. 7. Use a book to explain the following: a. Why does the “troika” believe that Greece’s problems should be resolved by requiring Greece to run a primary fiscal surplus? In your answer, be sure to explain what the “troika” is and how they are able to require this of Greece. b. Explain how the “troika” believes these policies will lead to long run improvement in Greece’s ability to pay and what the impact of these policies has been thus far. c. Explain how a Greek default could lead to a banking crisis and how this crisis could spread to all of Europe and even the world. d. In your capacity as a researcher for the Greek Finance Ministry, help prepare a report to be presented to the Troika as to why this program is actually unlikely to improve the situation. e. Should Greece leave the Eurozone? Explain.

Paper For Above instruction

The Balance of Payments (BOP) provides a comprehensive overview of a country’s economic transactions with the rest of the world. Analyzing the given BOP data reveals critical insights into the country’s economic stability and policy dilemmas. Notably, the country’s current account shows a significant deficit of $200 ($1000 export of goods minus $800 import of goods; $400 export of services minus $200 import of services). This deficit indicates that the country is spending more on foreign goods, services, and income payments than it earns, which could lead to downward pressure on its currency’s value if not offset by capital inflows.

Examining the components of the current account, the large net income paid ($1000) compared to the income received ($50) suggests a substantial outflow related to foreign investments and liabilities. The net capital transfers are zero, implying no additional financial support or debt forgiveness. Despite capital inflows of $300 from domestic investments and $500 into foreign assets, the net capital flows amount to $200 ($300 minus $500). The minimal foreign direct investment ($50) indicates limited long-term foreign investor confidence, further stressing the country’s economic outlook.

In the absence of central bank interventions, the BOP imbalance would typically lead to depreciation of the country’s currency. As foreign exchange demand exceeds supply due to persistent deficits, the value of the domestic currency would fall. This depreciation could, over time, improve the trade balance by making exports cheaper and imports more expensive, thus restoring equilibrium. However, given the current large deficit and the outflow of foreign financial assets, a simple devaluation may be insufficient to correct the situation without addressing underlying structural issues.

If the country wishes to maintain a fixed exchange rate despite persistent deficits, the central bank must intervene by selling foreign exchange reserves and purchasing domestic currency to support its peg. This intervention would lead to a decline in foreign exchange reserves, which would be visible as a reduction in the central bank’s holdings of foreign assets. Over time, this could lead to a reserve crisis, compelling policymakers to reconsider their exchange rate policy or face a potential abrupt devaluation if reserves are exhausted.

Should the central bank run out of foreign exchange reserves, the currency peg would become unsustainable. The foreign exchange market would see a surge in currency supply as sellers attempt to offload domestic currency in anticipation of a devaluation or currency collapse. Consequently, the domestic currency would depreciate sharply, potentially leading to hyperinflation, loss of investor confidence, and economic instability. This scenario underscores the importance of prudent reserve management and policymakers’ readiness to adjust exchange rate regimes during crises.

In the second part, considering a country aiming to maintain a fixed gold parity but facing higher domestic inflation, the country is likely to experience a current account deficit. According to the Quantity Theory of Money, higher inflation erodes the country’s competitiveness, making exports more expensive and imports cheaper, thus worsening the current account. The AD-AS model demonstrates that persistent inflation leads to a rightward shift in aggregate demand due to the devaluation of competitiveness, which, if unaddressed, raises domestic price levels and reduces output and employment in the short run. To restore balance, the country must implement policies to reduce inflation, such as tight monetary policy, which could, however, short-term slow economic growth but stabilize the exchange rate and current account over the long term.

An international lender of last resort can provide liquidity to countries facing balance of payments crises, preventing bank failures and ensuring stability, as seen in the role of the International Monetary Fund (IMF) during global crises. However, reliance on such institutions can foster moral hazard, encouraging countries to adopt risky policies under the expectation of external bailouts, which might undermine domestic reforms.

Addressing the longer-term issues of Greece, the “troika”—comprising the European Commission, the European Central Bank (ECB), and the International Monetary Fund (IMF)—advocates for fiscal consolidation via primary surpluses to stabilize public debt. Requiring Greece to run such surpluses aims to restore fiscal credibility, reduce debt-to-GDP ratios, and regain investor confidence. The troika’s rationale is that fiscal discipline will eventually stimulate economic growth and debt sustainability. Nonetheless, these policies have led to deep recession, high unemployment, and social hardship, raising questions about their long-term effectiveness.

A Greek default or sovereign debt restructuring could lead to a banking crisis, as banks holding Greek debt would face losses, potentially leading to bank failures and liquidity shortages. The crisis could spread to other Eurozone countries due to interconnected banking systems and financial markets, threatening the broader European financial stability. A widespread banking crisis could, in turn, affect global markets, emphasizing the importance of coordinated policy responses and contingency planning.

As a researcher advising the Greek Finance Ministry, it is critical to highlight that the current austerity-driven approach has not sufficiently spurred growth or improved debt sustainability. Alternative strategies, including debt relief, structural reforms, and policies fostering economic growth, might better serve Greece’s interests than strict adherence to fiscal targets that exacerbate recession. Leaving the Eurozone could provide monetary independence, enabling Greece to implement devaluation to regain competitiveness, but would also entail relinquishing the stability and credibility conferred by the euro. Such a decision should carefully weigh the risks and benefits, considering the potential for economic disorder and loss of access to the integrated European financial system.

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