ECONOMICS III - THEORY

ECONOMICS III - THEORY

1. ER and FX Market

   • EH/F=Home currency/Foreign currency
     • Currency union
     • Dollarization
     • Currency board
     • Pegged
     • Crawl
     • Managed Float
     • Free Float
   • FX Market
     • No central organised market exchange
     • Large market
     • Timezones
     • Spot contract
     • Derivatives
       • Forward
       • Swap
       • Futures
       • Options
     • Actors
       • CB
       • Gov
       • Private

2. Arbitrage

   • CIP - Riskless
     • 1+iH = (1+i*)xF/E
     • F= E(1+iH/1+i*)
     • holds if capital markets are open
   • UIP - Risky
     • 1+iH = (1+i*)xEe/E
     • allows to know the spot ER
     • i = i* + (Ee-E)/E
   • Equilibrium
     • Ee = F

3. Trilemma

   • Fixed Exchange Rate or Free Floating ER
   • International Capital Mobility or Capital Controls
   • Monetary Policy Autonomy or Dependent on External Entity

4. Law of One Price

   • identical goods in different places must sell at the same price expressed in the same currency
   • frictionless trade, free competition, price flexibility, world as an integrated market

5. Purchasing Power Parity

   • ExP*=P
   • Relative PPP: gE=gP-gP*

6. Real Exchange Rate

   • q= ExP*/P
     • q↑ real depreciation
     • q↓ real appreciation