Demand and Supply Shifts in Foreign Exchange Markets

Copyright 2011  Pearson Canada Inc. 24 - 1 Chapter 24 Aggregate Demand and Supply Analysis Copyright 2011  Pearson Canada Inc. 24 - 2 Aggregate Demand • Aggregate Demand - The relationship between the quantity of aggregate output demanded and the price level when all other variables are held constant • Based on the quantity theory of money – Determined solely by the quantity of money • Based on the components parts – Consumption, investment, government spending and net exports Y AD = C + I + G + NX Copyright 2011  Pearson Canada Inc. 24 - 3 Quantity Theory of Money Approach to Aggregate Demand M =quantity of money P= price level Y= aggregate real output (real income) P x Y = total nominal spending on goods and services V = the average number of time per year that a dollar is spent Multiplying both sides by M we derive the equation of exchange which relates money supply to aggregate spending M x V = P x Y Changes in aggregate spending are determined primarily by changes in the money supply M YxP V = Copyright 2011  Pearson Canada Inc. 24 - 4 Deriving the Aggregate Demand Curve • Changes in the price level induce changes in the aggregate output demanded and hence movement along the AD curve (points A, B, and C in Figure 24-1) • In the quantity theory, changes in the money supply are the primary source of changes in aggregate spending and thus shifts the AD curve. Copyright 2011  Pearson Canada Inc. 24 - 5 Aggregate Demand Curve Copyright 2011  Pearson Canada Inc. 24 - 6 Behaviour of Aggregate Demand’s Component Parts Y AD = C + I + G + NX The aggregate demand curve is downward sloping because P ↓ → M/P ↑ →i ↓ → I ↑ → Y AD ↑ and P ↓ → M/P ↑ →i ↓ → E ↓ → Y AD ↑ Copyright 2011  Pearson Canada Inc. 24 - 7 Factors that Shift Aggregate Demand • An increase in the money supply shifts AD to the right because it lowers interest rates and stimulates investment spending • An increase in spending from any of the components C, I, G, NX, will also shift AD to the right Copyright 2011  Pearson Canada Inc. 24 - 8 Factors That Shift the Aggregate Demand Curve I Copyright 2011  Pearson Canada Inc. 24 - 9 Factors That Shift the Aggregate Demand Curve II Copyright 2011  Pearson Canada Inc. 24 - 10 Aggregate Supply • Long-run aggregate supply curve (LRAS) – Determined by amount of capital and labor and the available technology – Vertical at the natural rate of output generated by the natural rate of unemployment • Short-run aggregate supply curve (SRAS) – Wages and prices are sticky – Generates an upward sloping SRAS as firms attempt to take advantage of short-run profitability when price level rises [...]... Run Aggregate Supply Short Run Aggregate Supply Factors that Shift Short Run Aggregate Supply I • Costs of production – – – – Tightness of the labor market Expected price level Wage push Change in production costs unrelated to wages (supply shocks) Factors that Shift Short Run Aggregate Supply II Equilibrium of AS and AD in the Short Run Equilibrium of AS and AD in the Long Run I Equilibrium of AS and. .. result of past high unemployment – Natural rate of unemployment shifts upward and natural rate of output falls below full employment – Expansionary policy needed to shift aggregate demand Demand and Supply Shifts in Foreign Exchange Markets Demand and Supply Shifts in Foreign Exchange Markets By: OpenStaxCollege The foreign exchange market involves firms, households, and investors who demand and supply currencies coming together through their banks and the key foreign exchange dealers [link] (a) offers an example for the exchange rate between the U.S dollar and the Mexican peso The vertical axis shows the exchange rate for U.S dollars, which in this case is measured in pesos The horizontal axis shows the quantity of U.S dollars being traded in the foreign exchange market each day The demand curve (D) for U.S dollars intersects with the supply curve (S) of U.S dollars at the equilibrium point (E), which is an exchange rate of 10 pesos per dollar and a total volume of $8.5 billion Demand and Supply for the U.S Dollar and Mexican Peso Exchange Rate (a) The quantity measured on the horizontal axis is in U.S dollars, and the exchange rate on the vertical axis is the price of U.S dollars measured in Mexican pesos (b) The quantity measured on the horizontal axis is in Mexican pesos, while the price on the vertical axis is the price of pesos measured in U.S dollars In both graphs, the equilibrium exchange rate occurs at point E, at the intersection of the demand curve (D) and the supply curve (S) 1/8 Demand and Supply Shifts in Foreign Exchange Markets [link] (b) presents the same demand and supply information from the perspective of the Mexican peso The vertical axis shows the exchange rate for Mexican pesos, which is measured in U.S dollars The horizontal axis shows the quantity of Mexican pesos traded in the foreign exchange market The demand curve (D) for Mexican pesos intersects with the supply curve (S) of Mexican pesos at the equilibrium point (E), which is an exchange rate of 10 cents in U.S currency for each Mexican peso and a total volume of 85 billion pesos Note that the two exchange rates are inverses: 10 pesos per dollar is the same as 10 cents per peso (or $0.10 per peso) In the actual foreign exchange market, almost all of the trading for Mexican pesos is done for U.S dollars What factors would cause the demand or supply to shift, thus leading to a change in the equilibrium exchange rate? The answer to this question is discussed in the following section Expectations about Future Exchange Rates One reason to demand a currency on the foreign exchange market is the belief that the value of the currency is about to increase One reason to supply a currency—that is, sell it on the foreign exchange market—is the expectation that the value of the currency is about to decline For example, imagine that a leading business newspaper, like the Wall Street Journal or the Financial Times, runs an article predicting that the Mexican peso will appreciate in value The likely effects of such an article are illustrated in [link] Demand for the Mexican peso shifts to the right, from D0 to D1, as investors become eager to purchase pesos Conversely, the supply of pesos shifts to the left, from S0 to S1, because investors will be less willing to give them up The result is that the equilibrium exchange rate rises from 10 cents/peso to 12 cents/peso and the equilibrium exchange rate rises from 85 billion to 90 billion pesos as the equilibrium moves from E0 to E1 Exchange Rate Market for Mexican Peso Reacts to Expectations about Future Exchange Rates An announcement that the peso exchange rate is likely to strengthen in the future will lead to greater demand for the peso in the present from investors who wish to benefit from the appreciation Similarly, it will make investors less likely to supply pesos to the foreign exchange 2/8 Demand and Supply Shifts in Foreign Exchange Markets market Both the shift of demand to the right and the shift of supply to the left cause an immediate appreciation in the exchange rate [link] also illustrates some peculiar traits of supply and demand diagrams in the foreign exchange market In contrast to all the other cases of supply and demand you have considered, in the foreign exchange market, supply and demand typically both move at the same time Groups of participants in the foreign exchange market like firms and investors include some who are buyers and some who are sellers An expectation of a future shift in the exchange rate affects both buyers and sellers—that is, it affects both demand and supply for a currency The shifts in demand and supply curves both cause the exchange rate to shift in the same direction; in this example, they both make the peso exchange rate stronger However, the shifts in demand and supply work in opposing directions on the quantity traded In this example, the rising demand for pesos is causing the quantity to rise while the falling supply of pesos is causing quantity to fall In this specific example, the result is a higher quantity But in other cases, the result could be that quantity remains unchanged or declines This example also helps to explain ...EC staff consolidated version as of 18 February 2011 FOR INFORMATION PURPOSES ONLY 1 International Accounting Standard 21 The Effects of Changes in Foreign Exchange Rates Objective 1 An entity may carry on foreign activities in two ways. It may have transactions in foreign currencies or it may have foreign operations. In addition, an entity may present its financial statements in a foreign currency. The objective of this Standard is to prescribe how to include foreign currency transactions and foreign operations in the financial statements of an entity and how to translate financial statements into a presentation currency. 2 The principal issues are which exchange rate(s) to use and how to report the effects of changes in exchange rates in the financial statements. Scope 3 This Standard shall be applied: 1 (a) in accounting for transactions and balances in foreign currencies, except for those derivative transactions and balances that are within the scope of IAS 39 Financial Instruments: Recognition and Measurement ; (b) in translating the results and financial position of foreign operations that are included in the financial statements of the entity by consolidation, proportionate consolidation or the equity method; and (c) in translating an entity’s results and financial position into a presentation currency. 4 IAS 39 applies to many foreign currency derivatives and, accordingly, these are excluded from the scope of this Standard. However, those foreign currency derivatives that are not within the scope of IAS 39 (eg some foreign currency derivatives that are embedded in other contracts) are within the scope of this Standard. In addition, this Standard applies when an entity translates amounts relating to derivatives from its functional currency to its presentation currency. 5 This Standard does not apply to hedge accounting for foreign currency items, including the hedging of a net investment in a foreign operation. IAS 39 applies to hedge accounting. 6 This Standard applies to the presentation of an entity’s financial statements in a foreign currency and sets out requirements for the resulting financial statements to be described as complying with International Financial Reporting Standards. For translations of financial information into a foreign currency that do not meet these requirements, this Standard specifies information to be disclosed. 7 This Standard does not apply to the presentation in a statement of cash flows of the cash flows arising from transactions in a foreign currency, or to the translation of cash flows of a foreign operation (see IAS 7 Statement of cash flows). Definitions 8 The following terms are used in this Standard with the meanings specified: Closing rate is the spot exchange rate at the end of the reporting period. 1 See also SIC-7 Introduction of the Euro. EC staff consolidated version as of 18 February 2011 FOR INFORMATION PURPOSES ONLY 2 Exchange difference is the difference resulting from translating a given number of units of one currency into another currency at different exchange rates. Exchange rate is the ratio of exchange for two currencies. Fair value is DANANG UNIVERSITY UNIVERSITY OF ECONOMICS TRADE DEPARTMENT  MICROECONOMICS Demand and Supply Teacher: Nguyen Huu Hien Members of group: • Le My Linh • Duong Minh Ha • Le Thanh Quyen • Le Thi Truc Kieu • Huynh Thi Thuy Trang • Hoang Thi Phuong Thao Class: 39K01.1-CLC Dec 11 DEMAND and SUPPLY MICROECONOMICS and MACROECONOMICS   Microeconomics is a branch of economics that studies the behavior of individual economics units: consumers, workers, investors, owners of land, business firms in making decisions on the allocation of limited resources Typically, it applies to markets where goods or services are bought and sold Microeconomics examines how these decisions and behaviors affect the supply and demand for goods and services, which determines prices, and how prices, in turn, determine the quantity supplied and quantity demanded of goods and services This is in contrast to macroeconomics, which involves the sum total of economic activity, dealing with the issues of growth, inflation, and unemployment Macroeconomics is a branch of economics dealing with the performance, structure, behavior, and decision-making of an economy as a whole, rather than individual markets This includes national, regional, and global economies With microeconomics, macroeconomics is one of the two most general fields in economics MICROECONOMICS 14 Dec 11 DEMAND and SUPPLY DEMAND and SUPPLY    Demand Definition: Demand is a schedule or a curve that shows the various amounts of product that consumers are willing and able to purchase at each of a series of possible prices during a specified period of time The demand curve: the inverse relationship between price and quantity demanded for any product can be represented on a simple graph, in which, by convention, we measure quantity demanded on the horizontal axis and price on the vertical axis Such a curve is called a demand curve Its downward slope reflects the law of demand – people buy more of a product, service, or resource as its price falls Ex: P D Q Determinants of demand: the demand curve shifts because of changes in: • Consumer tastes • The number of buyers in the market • Consumer income • The prices of substitute or complementary goods • Consumer expectations MICROECONOMICS 14 Dec 11 DEMAND and SUPPLY Market demand: market demand includes all of individual demands on the market In theory, market demand is obtained by adding all the individual quantities demanded at each price; we then plot the price and the total quantity demanded as one point on the market demand curve Change in demand: a change in demand schedule or, graphically, a shift in the demand curve is called a change in demand It occurs because the consumer’s state of mind about purchasing the product has been altered in response to a change in one or more of the determinants of demand If consumers desire to buy more corn at each possible price, that increase in demand is shown as a shift of the demand curve to the right Changes in quantity demanded: is a movement from one point to another point – from one price-quantity combination to another- on a fixed demand schedule or demand curve The cause of such a change is an increase or decrease in the price of the product under consideration This is a simple example: With the price 15,000 VND/kg of oranges, consumer A is ready to buy kg for his family for one day in hot summer months, 2008 in Hanoi However, when the price increases by 30,000 VND/kg, that consumer only desire to and afford to buy kg When the orange price is 15,000 VND/kg, the oranges quantity demanded is marketed to 10 tons per day But when the price increases by 30,000 VN/kg, there are only tons of oranges per day in Hanoi market So, with the different price, the consumers will desire to and afford to buy different quantities of articles Whereby, we see that the oranges quantity demanded of consumer A in Hanoi is kg/day while Hanoi market demand is 10 tons of oranges per day when the orange price is 15,000 Copyright 2011  Pearson Canada Inc. 24 - 1 Chapter 24 Aggregate Demand and Supply Analysis Copyright 2011  Pearson Canada Inc. 24 - 2 Aggregate Demand • Aggregate Demand - The relationship between the quantity of aggregate output demanded and the price level when all other variables are held constant • Based on the quantity theory of money – Determined solely by the quantity of money • Based on the components parts – Consumption, investment, government spending and net exports Y AD = C + I + G + NX Copyright 2011  Pearson Canada Inc. 24 - 3 Quantity Theory of Money Approach to Aggregate Demand M =quantity of money P= price level Y= aggregate real output (real income) P x Y = total nominal spending on goods and services V = the average number of time per year that a dollar is spent Multiplying both sides by M we derive the equation of exchange which relates money supply to aggregate spending M x V = P x Y Changes in aggregate spending are determined primarily by changes in the money supply M YxP V = Copyright 2011  Pearson Canada Inc. 24 - 4 Deriving the Aggregate Demand Curve • Changes in the price level induce changes in the aggregate output demanded and hence movement along the AD curve (points A, B, and C in Figure 24-1) • In the quantity theory, changes in the money supply are the primary source of changes in aggregate spending and thus shifts the AD curve. Copyright 2011  Pearson Canada Inc. 24 - 5 Aggregate Demand Curve Copyright 2011  Pearson Canada Inc. 24 - 6 Behaviour of Aggregate Demand’s Component Parts Y AD = C + I + G + NX The aggregate demand curve is downward sloping because P ↓ → M/P ↑ →i ↓ → I ↑ → Y AD ↑ and P ↓ → M/P ↑ →i ↓ → E ↓ → Y AD ↑ Copyright 2011  Pearson Canada Inc. 24 - 7 Factors that Shift Aggregate Demand • An increase in the money supply shifts AD to the right because it lowers interest rates and stimulates investment spending • An increase in spending from any of the components C, I, G, NX, will also shift AD to the right Copyright 2011  Pearson Canada Inc. 24 - 8 Factors That Shift the Aggregate Demand Curve I Copyright 2011  Pearson Canada Inc. 24 - 9 Factors That Shift the Aggregate Demand Curve II Copyright 2011  Pearson Canada Inc. 24 - 10 Aggregate Supply • Long-run aggregate supply curve (LRAS) – Determined by amount of capital and labor and the available technology – Vertical at the natural rate of output generated by the natural rate of unemployment • Short-run aggregate supply curve (SRAS) – Wages and prices are sticky – Generates an upward sloping SRAS as firms attempt to take advantage of short-run profitability when price level rises [...]... Run Aggregate Supply Short Run Aggregate Supply Factors that Shift Short Run Aggregate Supply I • Costs of production – – – – Tightness of the labor market Expected price level Wage push Change in production costs unrelated to wages (supply shocks) Factors that Shift Short Run Aggregate Supply II Equilibrium of AS and AD in the Short Run Equilibrium of AS and AD in the Long Run I Equilibrium of AS and. .. result of past high unemployment – Natural rate of unemployment shifts upward and natural rate of output falls below full employment – Expansionary policy needed to shift aggregate demand Demand and Supply at Work in Labor Markets Demand and Supply at Work in Labor Markets By: OpenStaxCollege Markets for labor have demand and supply curves, just like markets for goods The THE WILLIAM DAVIDSON INSTITUTE AT THE UNIVERSITY OF MICHIGAN BUSINESS SCHOOL POLICY REGIME CHANGE AND CORPORATE CREDIT IN BULGARIA: ASYMMETRIC SUPPLY AND DEMAND RESPONSES By: Rumen Dobrinsky and Nikolay Markov William Davidson Institute Working Paper Number 607 September 2003 POLICY REGIME CHANGE AND CORPORATE CREDIT IN BULGARIA: ASYMMETRIC SUPPLY AND DEMAND RESPONSES * Rumen Dobrinsky a and Nikolay Markov b a UN Economic Commission for Europe; Palais des Nations, CH-1211 Geneva, Switzerland tel. (+41 22) 917 2487; fax: (+41 22) 917 0309; e-mail: rumen.dobrinsky@unece.org b Centre for Economic and Strategic Research; 3 akad. Nikola Obreshkov street, apt. 1; Sofia-1113, Bulgaria, tel./fax: (+359 2) 971 3267; 973 2905; e-mail: nmarkov@mail.ibn.bg * The Centre for Economic and Strategic Research gratefully acknowledges financial support for this research from the European Commission (PHARE-ACE project P98-1125-R) and from the CERGE-EI Foundation (under a program of the Global Development Network, 2002). The views expressed in this paper are those of the authors and not necessarily of the organizations they are affiliated with. POLICY REGIME CHANGE AND CORPORATE CREDIT IN BULGARIA: ASYMMETRIC SUPPLY AND DEMAND RESPONSES ABSTRACT The paper seeks to assess how a major policy regime change – such as the introduction of the currency board in Bulgaria – affects the flow of bank credit to the corporate sector. An attempt is made to identify the determinants of corporate credit separately from the viewpoint of lenders and borrowers. The estimated credit supply and credit demand equations provide empirical evidence of important changes in microeconomic behavioral patterns which can be associated with the policy regime change. The results also suggest a considerable asymmetry in the response of credit supply and credit demand to the policy shock: while the supply shifts were quite pronounced, the patterns of firms’ credit demand remained fairly stable. The policy implications of the detected asymmetry in microeconomic adjustment are also discussed in the paper. Keywords: corporate credit, credit supply and credit demand, regime change, currency board, transition economy JEL classification numbers: G21, G32, G38 1 POLICY REGIME CHANGE AND CORPORATE CREDIT IN BULGARIA: ASYMMETRIC SUPPLY AND DEMAND RESPONSES 1. Introduction Bulgaria’s difficult transition from plan to market was marked by persistent macroeconomic and financial instability leading to a major economic collapse in 1996-1997. In 1997 a currency board arrangement (CBA) was established as a “policy of last resort” with the aim to impose fiscal and financial discipline. The change in the monetary regime was accompanied by a comprehensive package of policy reforms affecting not only the macroeconomic but also the institutional environment and the functioning of the financial system. In particular, the norms of prudential bank lending and bank supervision were tightened considerably; at the same time bankruptcy procedures were simplified and streamlined. All in all this amounted to a major policy regime change, in fact, the most important policy shift Shifts in Demand and Supply for Goods and Services Shifts in Demand and Supply for Goods and Services By: OpenStaxCollege The previous module explored how price affects the quantity demanded ... traits of supply and demand diagrams in the foreign exchange market In contrast to all the other cases of supply and demand you have considered, in the foreign exchange market, supply and demand typically... rate? 7/8 Demand and Supply Shifts in Foreign Exchange Markets A decrease in Argentine inflation relative to other countries should cause an increase in demand for pesos, a decrease in supply of... Demand and Supply Shifts in Foreign Exchange Markets Exchange Rate Markets React to Higher Inflation If a currency is experiencing relatively high inflation, then its buying power is decreasing