International economics/ asessment2 Essay Example

  • Category:
    Business
  • Document type:
    Assignment
  • Level:
    Masters
  • Page:
    1
  • Words:
    483

Question 1

Quantitative easing is a process where the Chinese Central Bank creates money by purchasing securities such as the US Treasury Bills. Quantitative easing has the impact of increasing money supply by availing capital in financial institutions such that their liquidity and ability to lend is increased. The increase in money supply causes an increase in real money supply shown by a rightward shift in real money supply curve from
international economics/ asessment2 as shown in figure 1 below. As a result, equilibrium interest rate declines from
international economics/ asessment2 1. In brief, the money market is such that demand for money is inversely related to interest rate. When interest rate moves down due to an incremental money supply, a lower equilibrium is attained at point
international economics/ asessment2 2 in figure 1 above (Hall and Lieberman, 2009).

Figure 1: Money market

international economics/ asessment2 3international economics/ asessment2 4international economics/ asessment2 5international economics/ asessment2 6

Interest rate

international economics/ asessment2 7international economics/ asessment2 8

international economics/ asessment2 9

international economics/ asessment2 10international economics/ asessment2 11international economics/ asessment2 12international economics/ asessment2 13

international economics/ asessment2 14

international economics/ asessment2 15international economics/ asessment2 16

international economics/ asessment2 17international economics/ asessment2 18international economics/ asessment2 19international economics/ asessment2 20

Real money

The decline in Chinese interest rate causes a reduction in rate of return on Chinese assets from
international economics/ asessment2 21. Finally, there would be an increase in exchange rate from
international economics/ asessment2 22. Concisely, an increase in Chinese money supply caused by quantitative easing leads to a decline in Chinese interest rate and a subsequent depreciation of the currency.

international economics/ asessment2 23international economics/ asessment2 24Figure 2: Foreign exchange market

international economics/ asessment2 25international economics/ asessment2 26international economics/ asessment2 27international economics/ asessment2 28

RoR’’

Real Exchange Rate

international economics/ asessment2 29international economics/ asessment2 30

international economics/ asessment2 31international economics/ asessment2 32

international economics/ asessment2 33

international economics/ asessment2 34international economics/ asessment2 35

international economics/ asessment2 36international economics/ asessment2 37international economics/ asessment2 38

international economics/ asessment2 39international economics/ asessment2 40

international economics/ asessment2 41international economics/ asessment2 42

Rate of return, i

Depreciated currency reduces imports and increases exports leading to an increase in aggregate demand (Gillespie, 2014). This will cause an increase in short-run real GDP and the prices. A further increase in exports and a declining level of imports results in higher inflation and higher cost of supplies. Local consumers are therefore negatively affected by the rising prices of general goods and services. In essence, undervalued currency is problematic in the sense that it creates inflationary pressure.

Question 2

  1. One of the major factors that affect capital outflow is the domestic real interest rate. The fall in Thailand’s baht reduces the cost of exports and increases the cost of imports. Low interest rate further motivates investors to relocate their capital assets to other nations where they expect returns on savings to be high.

  2. In a situation of capital outflows, monetary contraction policy will serve the purpose of raising interest rates. By tightening money supply, investors looking for higher rates of return will be attracted into Thailand. In such a situation, exchange rate would rise. The appreciating currency would encourage imports but discourage exports so that net exports would fall. In the end, there will be an inflow of currency and an increase in trade deficit. Apparently, the impact of monetary policy is enhanced where higher interest rate causes currency appreciation and a reduction of net exports.

Question 3

Information about the economy

international economics/ asessment2 43

international economics/ asessment2 44

international economics/ asessment2 45

international economics/ asessment2 46

international economics/ asessment2 47

  1. Size of the multiplier in the economy

international economics/ asessment2 48

international economics/ asessment2 49

international economics/ asessment2 50

international economics/ asessment2 51

international economics/ asessment2 52

international economics/ asessment2 53

  1. Short-run equilibrium output

At equilibrium, planned expenditure is equal to actual output hence,

international economics/ asessment2 54

international economics/ asessment2 55

international economics/ asessment2 56

international economics/ asessment2 57

international economics/ asessment2 58

Reference List

Gillespie, A 2014, Foundations of Economics, Oxford, Oxford University Press.

Hall, R, & Lieberman, M 2009, Macroeconomics: Principles and Applications, Mason, OH, Cengage Learning.