Money and Business

CHAPTER NINE

Dr. Clayton ThynePS 235-001: World Politics

Spring 2009

Goldstein & Pevehouse, International Relations, 8/e

Student notes version

About Money

• No money

• Money provides…

• Money has no…

• Because it depends on the willingness of people to honor and use it, money’s value rests on...

About Money

• Governments have the job of…• For money to have a stable value, the

political environment must be...– When public confidence that money today will

be exchangeable for needed goods tomorrow erodes, the result is inflation.

• Creation of currency– Old: – Today:

The Currency System

• Today, each state’s currency can be exchanged for a different state’s currency according to an exchange rate.– Exchange rate (def):

• Exchange rates are important because…

• Currency policies directly affect…

International Currency Exchange

• Most exchange rates are expressed in terms of the world’s most important currencies:

– Thus the rate for exchanging Mexican peso for Norwegian kroner depends on the value of each, relative to these world currencies.

– Exchange rates that most affect the world economy are those within the G7 states –

– China has held…

International Currency Exchange

• Changes in the value over time are meaningful.– Standards in currency are…– Value of euro rises (or falls) relative to the

dollar, because…

http://upload.wikimedia.org/wikipedia/commons/5/52/Euro_exchange_rate_to_USD%2C_JPY%2C_and_GBP.png

International Currency Exchange

• Convertible versus non-convertible currencies– In the absence of a convertible currency, the

holder of such money has...• E.g., foreign Soviet Union • Inflated currencies/hyperinflation

– Hyperinflation:– Very difficult to:

Table 9.1

International Currency Exchange

• Hard currency– Money that can be…– States maintain reserves of…– Fixed exchange rates:– Floating exchange rates:– Managed float system:– Government intervention in the currency market

• Coordinated multinational intervention• Argentina• China

Dark green = use the US dollarLight green = currency pegged to the US dollarDark blue = use the EuroLight blue = currency pegged to the Euro

Why Currencies Rise or Fall

• In the short term, exchange rates depend on…• In the long term, the value tends …

– Supply: – Demand:– Strong currency vs. weak currency

• Strong currency:

• Weak currency:

• Overvalued currency• Devaluation

Supply and Demand for the US Dollar

Price (p)

Quantity (q)

Supply (before)

Demand: amount demanded at each price

The US prints more dollars…

Supply (after)

Supply and Demand for the US Dollar

Price (p)

Quantity (q)

Supply: amount supplied at each price

Demand (before)

The shows instability (invades Iraq, budget deficit)…

Demand (after)

Central Banks

• In most industrialized countries, politicians know they cannot trust themselves with…

• To enforce self-discipline and enhance public trust in the value of money, these decisions are…

– Limit the amount of money printed and not allowing high inflation.

– In the U.S., the central bank is called the...• Sets the discount rate:

• This controls how fast money goes into the economy:

– Too fast: – Too slow:

The World Bank and the IMF

• As in security affairs, the main international institutions were created near the end of WWII

• The Bretton Woods system (1944), established:– International Bank for Reconstruction and Development (World

Bank)•

– International Monetary Fund (IMF)•

– Monetary regime (1944-71)•

•

•

• Vietnam War and rise of other economies

The World Bank and the IMF

• World Bank and IMF are the pillars of the international financial system.– Special Drawing Right (SDR)

• Used to…• Cannot buy goods – • Owned by…

State Financial Positions

• As currency rates change and state economies grow, the overall positions of states relative to each other shift.

National Accounts

• The IMF maintains a system of national accounts statistics to keep track of the overall monetary position of each state.– State’s balance of payments is like the financial

statement of a company. It summarizes all the flows of money in and out of the country.

• Current account:

• Capital flows:

• Changes in foreign exchange rates:

Blue: states w/ a current account surplusRed: states w/ a current account deficit

International Debt

• Economies contain standing wealth:– Hard currency reserve + capital goods (e.g., factories)– Growth

• •

• Debts– Standing wealth of the state is…

– Even with plenty of standing wealth, debt can…

International Debt• Why do states go into debt?

–

–

–

• Fiscal policy:

• Monetary policy:

• All transactions have trade-offs, so ultimately…

The Position of the United States

• The U.S. position in the international economy has shifted over decades.– Post WWII:

•

– 1980s:• •

– 1990s:•

– Early 2000s:•

– Foreign deficit/surplus history• Post WWII: • Early 1980s:• End of 1980s: • Today: • Overall:

Figure 9.1

The Position of Russia and Eastern Europe

• States in this region face…

• Most states of the former Soviet bloc became…

– Limited foreign loans– Deep depression– Upward trends for Russia since the financial crisis in

1998

Table 9.2

The Position of Asia• Japan’s growth since WWII

– –

• Similar mistakes made by other countries of East and Southeast Asia– Thailand, the Philippines, Malaysia, and Indonesia…

– Stock market…

– Philippines

– China

– South Korea

Multinational Business

• Although states are the main rule makers for currency exchange and other international economic transactions, these are carried out mainly by…– Most important among these are…

Multinational Corporations• Companies based in one state with affiliated branches or subsidiaries

operating in other states– Worlds largest corps: http://money.cnn.com/magazines/fortune/global500/2007/

• Types of MNCs:– Industrial corporations

• • •

– Financial corporations• •

– Service corporations•

• Role of MNCs…are they…– – –

Foreign Direct Investment

• MNCs do not just operate in foreign countries; they also own capital (standing wealth) there.– U.S. and German MNCs own some of the capital

located in Japan.– Japanese MNCs own capital located in the United

States and Germany.

• Direct foreign investment (FDI) involves...• Role of foreign investment

– Pros and cons

Figure 9.2

Host and Home Government Relations

• Host country:

• Home country:

• These duel interests can

Host and Home Government Relations

• In general, an MNC cannot...• In theory, an MNC operates in…

• Conflicts may arise– – – –

Host and Home Government Relations

• Conflicts with home governments– –

• Security–

• Impact on…