FIN 417- Exam #1 Study Guide - FIN 417 Exam#1 Study Guide...

FIN 417- Exam #1 Study Guide
Chapter 1
• Comparative Advantage- Whenever slope of two lines are NOT equal- you have
opportunity for trade aka comparative advantage*
o Countries would NOT want to do this when: political disagreement ex) N.
Korea. Don’t want to rely on them for goods. TRUST AND NATIONAL
SECURITY
o The theory of comparative advantage explains why it can be beneficial
for two parties (countries, regions, individuals etc.) to trade if one has a
lower relative cost of producing some good.
Chapter 2
• Gresham’s Law- The least valuable metal tends to circulate driving the good
money out of the market.
o This is the essential problem with bimetallism and, to a lesser extent, with
any commodity related money.
o Idea is that good money trades equal to or below its intrinsic value (e.g.
the amount of gold/silver it has in it) while bad money trades ABOVE its
intrinsic value. People will keep the good one for themselves and settle
trades with less valuable money that has a face value enforced by law.
o This drives good money out of circulation and ultimately out of the market
inducing people to trade it abroad or melt it.
• Gold Standard- The exchange rate between two country’s currencies would be
determined by their relative gold contents.
o Didn’t matter where it came it, its value came by its weight- unrestricted
coinage
o Price-Specie-Flow Mechanism- Slide 17
o Cant go back to the gold standard, it is too difficult to track and would
create piracy because you would have to physically move it
• Interwar Period- Exchange rates fluctuated as countries widely used “predatory”
depreciations of their currencies as a means of gaining advantage in the world
export market.
o Created seriously high inflation- Stop inflation stop printing money. Then
do something about the currency that reflects value.
• Bretton Woods System-
o The purpose was to design a postwar international monetary system.
o The goal was exchange rate stability without the gold standard.
o The result was the creation of the IMF and the World Bank.
o US dollar was pegged to Gold at $35/oz. Had to stay within (+/- 1%)
o Slide 23
• Currency Exchange Rates
o Free Float =The largest number of countries, about 48, allow market
forces to determine their currency’s value.
o Managed Float ***(Dirty Float)=About 25 countries combine government

intervention with market forces to set exchange rates.
 Ex) Canada had a huge dirty float against the US. Canada would
intervene in the market place to take out volatility in the Canadian
market place. Don’t confuse countries with free float and dirty
float. Coordinated monetary policy
o Pegged to another currency- Ex) Denmark. With developing countries,