Exchange Rate

Examine how exchange rate changes and volatility influence trade balance over time?

There is no real consensus on either the direction or the size of the exchange rate volatility - trade level relationship. Exchange rate volatility can affect trade directly, through uncertainty and adjustment costs, and indirectly, through its effect on the structure of output and investment and on government policy. An increase in exchange rate volatility may also have a secondary effect on trade prices reducing the pass-through of changes in competitiveness. An increase in exchange rate volatility has opposite effects on exports and imports because exporters and importers are on opposite sides of the forward market. The sign of the trade balance and the aggregate measure of risk aversion determine which flow benefits. This follows from the fact that the equilibrium forward rate is determined by the total supply and demand for forward foreign currency. Exports lose (benefit) and imports benefit (lose) when the trade balance is positive (negative), or alternatively when the forward risk premium is positive (negative).

Evaluate the history of capital mobility and the conditions that lead in times of crisis to capital flight?

1860-1914 Countries started to adopt gold standards and increase capital mobility. 1914-1945 Capital mobility decreased because of global depression and world wars. 1945-1971 After Bretton Woods international trade increased. 1971 Capital mobility continued increasing with a help of floating exchange rates, economic volatility and capital flows over border. Capital flight occurs when assets and/or money rapidly flow out of a country, due to an economic event (such as an increase in taxes on capital and/or capital holders or the government of the country defaulting on its debt) and that disturbs investors and causes them to lower their valuation of the assets in that country, or otherwise to lose confidence in its economic strength. This leads to a...