Between 1995 and 1997 the effective exchange rate of the pound sterling
appreciated by 20%. What factors might explain this increase in the value
of the pound?
5. Between 1995 and 1997 the effective exchange rate of the pound
sterling appreciated by 20%.
(a) What factors might explain this increase in the value of the
pound?
There are several reasons that contribute to the appreciation of the
pound.
INTEREST RATES
Interest rates have a large effect in a world where financial capital
can move freely between countries.
If for example the UK interest rates are high relative to elsewhere
this attracts inflows of money into the UK seeking to take advantage
of the high interest rates. This "interest differential" boosts the
demand for the currency and can cause its value to rise.
ECONOMIC GROWTH
Countries experiencing a rapid economic growth often find that their
exchange rate is strengthening. Traders in the currency markets may
take the rapid growth to be a sign of general economic growth and
"mark up" the value of the currency as a result.
Also economies with strong "export-led" growth may see their
currency's rise in value. Japan is a good example of this in recent
years. The Euro was weak during the first six months of its existence
in part because the financial markets were worried about the slow
growth of the European economy and the persistently high level of
unemployment.
INFLATION
As with the UK, as there are low levels of inflation, this has meant
that our goods have become cheaper and demand for our exports has
increased. Foreigners have bought pounds to finance our goods. This
has meant that the value of the pound has increased. However this is
like a cobweb with many downsides such as a rise in inflation as
exports are a component of aggregate demand.
In the long run, those countries with higher than average inflation
see their exchange rate fall. When inflation is high, a country
becomes less competitive in international markets causing a fall in
exports (a demand for a currency) and a rise in imports (a supply of
currency overseas). A fall in the exchange rate may be needed to
restore a country's competitiveness in overseas markets.
THE BALANCE OF PAYMENTS
When we operate at a current account surplus i.e. when our
exports>Imports, then foreigners will need pounds in order to finance
the exports we sell them. They will buy pounds. This will result in
the value of the pound to increase.
Selling exports represents a demand for the domestic currency from
foreign importers. When US consumers buy British Whisky they supply
dollars and this is eventually translated into a demand for pounds.
Foreign exchange refers to two different things. The first is currency claims expressed in the equivalent value in foreign money. The second is actual transactions involving the conversion of money of one country into that of another.
To put it simply, the exchange rate is a price. As with any other market, price is determined by supply and demand. Whenever they are not equivalent, the exchange rate would change. However, the reality comes to be far more complicated.
In this section I will be discussing how inflation rates have increased over the past 40 years, and what effect this has had on monetary growth. Inflation rates are defined as the rate of change in price levels in our economy especially Canada. Surveys are conducted quarterly or monthly to determine and generate a Consumer Price Index. The CPI is conducted with a “basket of goods” to determine changes in consumer prices for Canadians. It is important to study and analyze the rate of inflation because it helps the government determine how the dollar value has changed over a period of time. Also to adjust pending contracts and initiate new pensions which have to take into account the effect of inflation. Less well-off people and elderly are more
King (1990, page x) argues that the dissolution of empire has been critical to the growth of world cities. How far does this apply to London? Modern patterns of development and growth have been shaped and influenced by the historical context of colonialism. Within this context relationships between capitalist and pre-capitalist states or colonies helped forge a world economy, which would later lead to processes of globalisation and the current economic world order. Expansion in the world economy has been exacerbated by the freer flow of labour, goods, services and capital, which are features of the post-war, post-colonial world.
The fluctuation or well known as the exchange market is the rate at which one currency will be exchange for another. It also regarded as the value of one country’s currency in the terms of another currency. The fluctuation was determined in the foreign exchange market (Wikipedia, 2014). The fluctuation rate is not permanent sometime in one day the fluctuation rate can change from high to low and from low to high.
In addition, value of exchange rate will affect the cost of imports and exports. MNCs involved in many import and export activities, volatility of exchange rate will bring the positive or negative effects to the firms. In the exchange rate, the relationship of currency between the countries is opposite. For example, domestic currency appreciation causes the import cheaper. On the other hand, foreign currency appreciation causes the import expensive.
For most of the eighteenth century, a shilling a day was a fair wage for most workers. Highly skilled workmen naturally made more; unskilled laborers and farm workers fared somewhat less favorably. One shilling would take home "5 Ibs.. of meat or four rabbits, 3 quarts of strong ale, or 6 gallons of 'middling' beer" (Mays 6). M. Dorothy George relates that the cheapest theatre seat, in the top gallery, was about a shilling. And the "weekly rent of a miserable London attic, ready furnished" might be 1 shilling six pence" (George Hogarth 51 n).
Recall that an exchange rate is the price of one currency in another. For example, it may take US $1.35 to buy 1 British Pound. Also recall the interest rates affect exchange rates. What do you predict will happen to the foreign exchange rate if interest rates in the United States increase more than in the UK? (In other words, which currency will become stronger?) How would such a change affect US exports to the UK? Would it be less expensive for an American tourist to take a vacation to London after the interest rate change? Be sure to clearly explain and justify your reasoning.
Economic risk is another type of exchange risks companies have to consider when dealing globally. Changes in exchange rates are bound to affect the relative prices on imports and exports, and that will again affect the competitiveness of a company. An UK exporter dealing with companies in the US would not want the US$ to depreciate, because it would make the exports more expensive for the US market, thus the company will loose business.
The 1997 Asian financial crisis was a disaster that obsessed much of Southeast Asian countries. The financial crisis began in July 1997, and rose to worldwide economic meltdown due to financial contagion. Thailand, Indonesia and South Korea were the most affected by the financial crisis. Hong Kong, Malaysia, and the Philippines also had abundant negative effects by the financial disaster. China, Singapore, and Vietnam were less affected, however, they also suffered from the crisis, which leads the citizens lost their faith of the economy at that period.
The significance of exchange rates within the economy of any society cannot be over emphasized since it is a relevant price concept of any nation. Alterations in exchange rates can lead to massive reallocations of raw materials, resources as well as production between the tradable and non-tradable sectors of the economy of any Country. But seldom is the concept of the exchange rate truly depicted for what it truly is: A relative price, which like any other economic entity is responsive to the laws of supply and demand. When viewed from an approach of a price concept, the exchange rate, according to fundamental economic theories can then be evaluated and determined within an economic system, its behavior as well as its significance can then be understood by outlining and paying relevant attention to certain factors within the economic system that influence it.
A currency depreciation will have both short and long term effects. In the short term, the exchange rate will cause a country’s exports to appear cheaper, thus also increasing the demand for those exports. Likewise, it will also make imports more expensive and reduce the demand. In the long term, the depreciation can lead to increased assumed demand, pushing economic growth. Higher assumed demand can also lead to higher real GDP and potentially inflation. All of this has the potential to impact the current account.
The foreign exchange markets allow the conversion of currencies, where it helps the firms to conduct trade more efficiently across the national boundaries. In addition, firms can shop for low cost financing in capital markets all over the world and then use the foreign exchange market to convert the foreign currency that they got into whatever currency they require. With the foreign exchange nowadays, anyone can go to other country by converting their domestic currency into the foreign currency. The foreign exchange will follow the rate of exchange according to the country's rate. But still, the foreign exchange market is actually dealing with fluctuation where sometimes it has upward and downward movement.
The Foreign Exchange Market deals with that task and it has to consider so many factors to be able to determine the exchange rates. The current exchange rate is floating, which means that it is up and down because of multiple reason or they can be fixed with another currency.
The U.K. uses pounds and the U.S. uses the U.S. dollar. The United Kingdom has a specific symbol to represent the pound as we do for our dollar, the pound symbol is £. Using a converter, one U.K. pound equals about 1.22 U.S. dollars (USD per 1 GBP - Past 24 Hrs.). Therefore, we will have to exchange our money before we leave.