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Unformatted text preview: Chapter 21-The International Financial System Unsterilized Foreign Exchange Intervention A central banks purchase of domestic currency and corresponding sale of foreign assets in the foreign exchange market leads to an equal decline in its international reserves and the monetary base A central banks sale of domestic currency to purchase foreign assets in the foreign exchange market results in an equal rise in its international reserves and the monetary base Unsterilized Intervention An unsterilized intervention in which domestic currency is sold to purchase foreign assets leads to a gain in international reserves, an increase in the money supply, and a depreciation of the domestic currency Sterilized Foreign Exchange Intervention To counter the effect of the foreign exchange intervention, conduct an offsetting open market operation There is no effect on the monetary base and no effect on the exchange rate Balance of Payments Current Account International transactions that involve currently produced goods and services Trade Balance Capital Account Net receipts from capital transactions Sum of these two is the official reserve transactions balance Exchange Rate Regimes Fixed exchange rate regime Value of a currency is pegged relative to the value of one other currency (anchor currency) Floating exchange rate regime Value of a currency is allowed to fluctuate against all other currencies Managed float regime (dirty float) Attempt to influence exchange rates by buying and selling currencies Past Exchange Rate Regimes Gold standard Fixed exchange rates No control over monetary policy Influenced heavily by production of gold and gold discoveries Bretton Woods System Fixed exchange rates using U.S. dollar as reserve currency International Monetary Fund (IMF) World Bank General Agreement on Tariffs and Trade (GATT) World Trade Organization European Monetary System Exchange rate mechanism How a Fixed Exchange Rate Regime Works When the domestic currency is overvalued, the central bank must purchase domestic currency to keep the exchange rate fixed (it loses...
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- Spring '10