International Finance Questions

ASSIGNMENT

1. The fundamental question about the Speculative attacks on fixed exchange rate regimes is the degree to which they are predictable given information on the fundamentals of the economy. Discuss the process and types of attacks and their influence on the international flows. (10 marks)

A speculative attack on a fixed exchange rate is the attempt of currency market participants to force central bank to abandon the support of fixed exchange rate regime thus getting profit from the jump in exchange rate of foreign currency. Naturally, the appreciation of the domestic currency cannot be achieved as central bank will only increase its reserves and that's why speculative attacks are aimed at depreciation of the domestic currency. For the attack to be successful, speculators must create short term substantial demand for foreign currency which cannot be satisfied by the central bank at the current fixed exchange rate because of lack of foreign reserves.

Types of speculative attacks on fixed exchange rate regimes

2. In 1992, about 34% of all adult workers were under the age of 34 years, compared with almost 47% by 2007. Meanwhile, the share of the workforce between 35 years and 59 years shrunk from about 60% to 49%.

What impact might this dramatic shift in the age distribution of Kenyan workforce have had on the Kenyan current account balance of this of this 15 -year period? (10 marks)

3. Under the current linked exchange rate system, (the relative version of) the purchasing power parity (PPP) implies that HK should have the same inflation rate as the US whereas the interest rate parity (IRP) implies that the nominal interest rates in the two places should also be the same. However, data in the 1990s show that the inflation rate was significantly higher in HK than in the US. Evidence during the Asian financial crisis also shows that the nominal interest rate was much higher in HK than in the US.

Can these be taken as solid evidence to reject both the PPP and the IRP? If not, what alternative arguments or evidence can you provide to support the two parity conditions in the context of Hong Kong? (10 marks)

4. "According to the intertemporal approach to balance of payments, an open economy hit by an adverse supply shock will suffer a deterioration in its current account. Explain whether the above statement is true or false. (10 marks)

(Total 40 marks)