Week8 - Fixed Exchange Rates and Foreign Exchange Interventions Viktoria Hnatkovska week 8 1 Preview Balance sheets of central banks Intervention

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Fixed Exchange Rates and Foreign Exchange Interventions Viktoria Hnatkovska week 8 1
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Preview Balance sheets of central banks Intervention in the foreign exchange markets and the money supply Financial market crises and capital ±ight Zero interest rates, de±ation, and liquidity traps 2
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Why study fixed exchange rates by intervening in the foreign exchange markets. mutual exchange rates, while allowing free ³oat against currencies of nonmember countries. Many developing countries practice pegs or a managed ³oating exchange rate. The central bank ±manages²the exchange rate from time to time by buying and selling currency and assets, especially in periods of exchange rate volatility. Historically pegs were popular. Can we use some lessons from the past for the future? How do central banks intervene in the foreign exchange markets? 3
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Central bank balance sheet and the money supply balance sheet for the central bank . Balance sheet records the assets and liabilities of a central bank. Balance sheets use double booking keeping: each transaction enters the balance sheet twice. Assets: Foreign assets ± Foreign government bonds (o¢ cial international reserves) Gold (o¢ cial international reserves) Domestic assets: claims on domestic citizens and institutions ± Domestic government bonds ± Loans to domestic banks (called discount loans in US) Liabilities: Deposits of domestic banks: banks are required to hold central bank deposits as partial backing of their own liabilities Currency in circulation (previously central banks had to give up gold when citizens brought currency to exchange) 4
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Assets = Liabilities + Net worth If we assume that net worth is constant, then An increase in assets leads to an equal increase in liabilities. A decrease in assets leads to an equal decrease in liabilities. changes in deposits of banks, which lead to changes in the money supply. Example: when central bank purchases an asset, it pays for it in one of the two ways: by cash, which raises the supply of currency in circulation by check, which, when deposited in the private bank, raises that bank claims on the central bank by the same amount the latter can typically be used by the private bank to make additional loans to cus- tomers, as a result, the amount of money in circulation increases. Therefore, understanding balance sheet of the central bank is important as any changes in
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This note was uploaded on 01/28/2011 for the course ECON 304 taught by Professor Michaelpeters during the Spring '10 term at The University of British Columbia.

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Week8 - Fixed Exchange Rates and Foreign Exchange Interventions Viktoria Hnatkovska week 8 1 Preview Balance sheets of central banks Intervention

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