Reserve currency system
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Reserve Currency System. ECON 4420 MIRI NAM. Overview. Types of Fixed Exchange Rate Systems 1. The Reserve Currency Standard 2. The Gold Standard 3. The Gold-Exchange Standard. Overview (cont’d). Rules 1. Reserve Currency 1) Fix currency to another currency

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Reserve Currency System

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Reserve currency system

Reserve Currency System

ECON 4420

MIRI NAM


Overview

Overview

  • Types of Fixed Exchange Rate Systems

    1. The Reserve Currency Standard

    2. The Gold Standard

    3. The Gold-Exchange Standard


Overview cont d

Overview (cont’d)

  • Rules

    1. Reserve Currency

    1) Fix currency to another currency

    2) Central bank must hold a stock of

    foreign exchange reserves to facilitate

    FOREX interventions

    2. Gold Standard

    1) Fix currency to a weight of gold

    2) Central bank freely exchanges gold for a

    currency with public


Overview cont d1

Overview (cont’d)

3. Gold-Exchange Standard

1) Reserve country fixes its currency to a

weight of gold

2) All other countries fix their currencies

to reserve

3) Reserve central bank freely exchanges

gold for currency with other central

banks

4) Non-reserve countries hold a stock of the

reserve currency to facilitate intervention in the

FOREX


The mechanics of a reserve currency standard

The Mechanics of a Reserve Currency Standard

  • What’s a Reserve Currency Standard?

    1. The typical method for fixing a currency today

    2. Most countries that fix its exchange rate will

    fix to a currency that either is prominently

    used in international transactions or is the

    currency of a major trading partner


The mechanics of a reserve currency standard cont d

The Mechanics of a Reserve Currency Standard (cont’d)

  • How does a Reserve Currency System work?

    1. The workings or a reserve system are illustrated

    by the system based on the U.S. dollar

    2. Central banks held a large portion of their

    international reserves in the form of U.S.

    Treasury bills and short-termdollar deposit


The mechanics of a reserve currency standard cont d1

The Mechanics of a Reserve Currency Standard (cont’d)

  • Example 1

    Suppose Britain decided to fix its currency to the dollar at the exchange rate E$/£=1.50

    To maintain this fixed exchange rate, the Bank of England would stand ready to exchange pounds for dollar (or dollars for pounds) upon demand at the specified exchange rate


The mechanics of a reserve currency standard cont d2

The Mechanics of a Reserve Currency Standard (cont’d)

  • Example 2

    Suppose FFr 5 per dollar while DM 4 per dollar

    The exchange rate between FFr and DM remains constant at DM 0.80 per franc=(DM 4 per dollar)/(FFr 5 per dollar)

    1) At rate of DM 0.85 per franc,

    DM would appreciate until DM 0.80 per franc reached

    2) At rate of DM 0.75 per franc,

    DM would depreciate until DM 0.80 per franc reached


The asymmetric position of the reserve center

The Asymmetric Position of the Reserve Center

  • What Happens in a Reserve Currency System?

    1. The country whose currency is held as reserves

    occupies a special position because it never has to

    intervene

    2. Our account of monetary policy under a reserve

    currency system points to a basic asymmetry

    3. The inherent asymmetry of a reserve system

    places immense economic power in the hands of

    the reserve country


The asymmetric position of the reserve center cont d

The Asymmetric Position of the Reserve Center (cont’d)

  • The World’s Reserve Currency

    1. There are now more Euro (new currency created

    only 7 years ago) circulation worldwide than

    U.S. dollars

    2. It is not necessarily troubling, as the dollar remains

    the world’s most important reserve currency, but

    the rise of the Euro internationally is another sign

    that the U.S. dollar is not what it used to be

    3. American can maintain a large trade deficit only

    if foreign banks continue to hold large numbers

    of dollars as their reserve currency


The asymmetric position of the reserve center cont d1

The Asymmetric Position of the Reserve Center (cont’d)

  • The Latest News

    United Nations, Nobel Prize-winning economist Joseph Stiglitz has called for a new global system to replace the US dollar as the world’s reserve currency

    - A proposal for a new Special Drawing Rights (SDRs)-based reserve system

    - Such a system could contribute to global stability, economic strength, and global equity and could be feasible, non-inflationary and easily implemented


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