Economics Assignment - Criticisms of Flexible Exchange Rate, Sterilized Intervention, Seigniorage Revenue, and Emerging Market Economy

This economics assignment covers the criticisms of flexible exchange rate, sterilized intervention, seigniorage revenue, and emerging market economy. It also discusses the Obstfeld model, risk premium, and the policy trilemma. The assignment includes seven answers with references.

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Running head: ECONOMICS ASSIGNMENT
Economics Assignment
Name of the student
Name of the University
Author note

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Table of contents
Answer 1...............................................................................................................................................3
Answer 2...............................................................................................................................................3
Answer 3...............................................................................................................................................3
Answer 4...............................................................................................................................................4
Answer 5...............................................................................................................................................4
Answer 6...............................................................................................................................................5
Answer 7...............................................................................................................................................6
Reference list.........................................................................................................................................7

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Answer 1
There are many criticisms based on to the flexible rate regimes which states that the
elasticity in the international market are quite low for the exchange rate in order to work
successfully (Ellis & Elbahnasawy, 2018). Flexible exchange rate create conditions of
instability and it also have an adverse effect on the economic structure.
The three criticisms based on the flexible rate system are:
 Possibility of disequilibrium: there will be a possibility that forces of demand
and supply in the foreign exchange market will operate in such a way that the
rate of exchange diverges farther from the natural level of rate of exchange.
The variations in the rate of exchange fail to bring in the equilibrium.
 Indirect government intervention: the government usually does not interfere in
the exchange controls of the flexible exchange rate.
 Fragmentation of the world market: There is an absence of stable medium of
exchange and stable store of value. The world trade and the welfare also gets
affected.
 Exchange risks and uncertainity: the flexible exchange rates causes variations
in the rates of exchange whivh will create exchange risks and impede the
capital movements.
Supporters of the floating system rate countered that international traders can avoid the risk
of exchange rate with the help of transactions in the forward exchange market. It can
automatically prevents instability in the domestic money market from affecting the money.
This is also a powerful argument in favor of the exchange rate. Proponents of floating also
stated that capital flows will be in a destabilizing manner under fixed rates.

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Answer 2
A sterilized intervention is a kind of purchase of the foreign currency which is done
by the central bank for influencing the exchange rate in case of domestic currency. The
sterilized intervention includes sale or purchase of the assets of foreign currency and an open
market operations. The purchasing of the foreign currency by the centrl bank in order to
influence the exchange value of the domestic currency is termed as the sterilized intervention
which is done without altering the monetary base.
Answer 3
Figure 1 Obstfeld model

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The floating exchange rate is mainly determined by the private market with the changes in
demand and supply. The floating exchange rate will also not require an international manager
for managing the exchange rates. There is also no need of the central bank intervention and
elaborate capital flow restrictions.
Answer 4
It is always known that the fiscal policy is very much less effective in case of foreign
exchange rate. The theory of the policy trilemma have been introduced by the economists
Robert Mundell which described the exchange rates, monetary policy and the capital flows.
According to the trilemma model a country can set a fixed exchange rate between the
currency (Qin, 2017). It will let the country to set its monetary policy freely. It also sets own
monetary policy and maintains a fixed exchange rate.

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Answer 5
(a) A risk premium is a kind of return which is in excess of the risk free rate of return an
investment will be expecting to yield. The main risks which comprises the risk premium are
the business risk, liquidity risk, country specific risk and the financial risk.
(b) An increase in the national income will increase the rate of equilibrium. When the
imports increases, the exchange rate reserve will also decease. Therefore, an increase in the
domestic asset will lead to decrease in the exchange rate
(c)
Imperfect asset substitutability is the assets expected return which will differ in equilibrium.
Here risk id the main factor which may be leading to imperfect asset substitutability in the
markets of the foreign exchange. The Central banks will be able to able to control both the
supply of money and the rate of exchange through the sterilized foreign exchange
intervention.

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Answer 6
(a) Seigniorage is termed as revenue for the government and is the difference between the
value of money and the cost to produce it or can be said as the economic cost of
producing it. When the seignorage is positive, the government will be making
economic profit (Nguyen, 2015). The value of money over the cost of production is
termed as seigniorage. Therefore, seigniorage can be termed as the profit which is
made by the government while issuing any currency.
(b) Yes, government can increase the seigniorage revenue by expanding the money
supply. A rise in the rate of growth of money have an impact on the seigniorage. It
have been found out that with faster growth of money, it can lead to more or less real
value of the seigniorage which usually depends on the change of rate of tax or the
tax base which is large quantitavely. (Nguyen, 2015). The reserve requirements can
also influence the real seignorage revenue.
(c) As the percent seigniorage value of France is known to be 0.83, therefore it is advised
that the government should not expand the supply of money as the value is already
negative in nature.
(d) As the value is highly positive in case of Australia, therefore it is advised that the
government should be expanding its supply of money. The government should expand
its money supply to increase the revenue.
(e) In order to maximize the seigniorage revenue. The inflation rate must be chosen so
that the growth rate of the money maximizes which will increase the revenue. The
seigniorage is the revenue which the government collects by printing money.
Answer 7
An emerging market economy is one in which the country becomes a developed
nation and will be determined through many kinds of socio economic factors (Bibow, 2018).

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An emerging market economy is a kind of economy which is progressing towards becoming
advanced. In the first generation model the collapse of the fixed rate regime is caused as a
result of unsustainable fiscal policy. The third generation model explores various mechanisms
through which balance sheet exposures might lead to banking crisis.

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Reference list
Bibow, J. (2018). Unconventional Monetary Policies and Central Bank Profits: Seigniorage
as Fiscal Revenue in the Aftermath of the Global Financial Crisis (No. wp_916).
Combes, J. L., Motel, P. C., Minea, A., & Villieu, P. (2015). Deforestation and seigniorage in
developing countries: A tradeoff?. Ecological Economics, 116, 220-230.
Ellis, M. A., & Elbahnasawy, N. G. (2018). Do natural resource revenues lower government
reliance on seigniorage? The role of exchange rate policy. Development Policy
Review, 36(3), 285-307.
Hollander, H., & Christensen, L. (2018). Supplementary Appendix: Monetary Regimes,
Money Supply and the US Business Cycle since 1959: Implications for Monetary
Policy Today.
Nguyen, B. (2015). Effects of fiscal deficit and money M2 supply on inflation: Evidence
from selected economies of Asia.
Qin, R. (2017). The Impact of Money Supply and Electronic Money: Empirical Evidence
from Central Bank in China.
Reich, J. (2017). Seigniorage from Fiat Currency: Present State of Economics.
In Seigniorage (pp. 41-61). Springer, Cham.
Reich, J. (2017). Seigniorage in Institutional Perspective. In Seigniorage (pp. 1-15). Springer,
Cham.