I.
Instructor: Cem Karayalcin
Phone: 348-2316
E-mail: karayalc@fiu.edu
Webpage: www.fiu.edu/~karayalc
READINGS
II.
Office Hours: Mondays and Wednesdays:
III. Textbook:
P. Krugman and M. Obstfeld , International
Economics, 7th Edition, Addison-Wesley (Required)
IV.
Examinations: Examination #1 - 40%,
Examination #2 - 60%,
Grading
Scale:
100 – 90 A
89 – 80 B
79 – 70 C
69 – 60 D
59 – 0 F
Pluses and minuses will be given at the
instructor’s discretion.
Prerequisites: ECO 3203 (Intermediate Macroeconomics) or
equivalent.
General
Notes: THOSE THAT ARE NOT PRESENT FOR
AN EXAMINATION CAN EXPECT A FAILING GRADE FOR THAT EXAM. NO EXCEPTIONS.
THERE WILL NOT BE ANY MAKE-UP EXAMS OR EXTRA CREDIT WORK FOR MISSED EXAMS.
Grades are available to students via web and at kiosks.(Please
do not request grades via email, as they will not be provided)
Course
Outline:
Exchange Rates and Open-Economy Macroeconomics
The presentation of international macro theory proceeds by building up an integrated model of exchange rate and output determination. Successive chapters in Part A construct this model step by step so students acquire a firm understanding of each component as well as the manner in which these components fit together. The resulting model presents a single unifying framework admitting the entire range of exchange rate regimes from pure float to managed float to fixed rates. The model may be used to analyze both comparative static and dynamic time path results arising from temporary or permanent policy or exogenous shocks in an open economy.
National Income Accounting and the Balance of Payments
The primacy given to asset markets in the model is reflected in the discussion of national income and balance of payments accounting in the first chapter of this section. Chapter 12 begins with a discussion of the focus of international finance. The discussion then proceeds to national income accounting in an open economy. The chapter points out, in the discussion on the balance of payments account, that current account transactions must be financed by financial account flows from either central bank or noncentral bank transactions. A case study uses national income accounting identities to consider the link between government budget deficits and the current account.
Exchange Rates
and the Foreign Exchange Market: An Asset Approach
Observed behavior of the exchange rate favors modeling it as an asset price rather than as a goods price. Thus, the core relationship for short-run exchange-rate determination in the model developed in Part A is uncovered interest parity. Chapter 13 presents a model in which the exchange rate adjusts to equate expected returns on interest-bearing assets denominated in different currencies given expectations about exchange rates, and the domestic and foreign interest rate. This first building block of the model lays the foundation for subsequent chapters that explore the determination of domestic interest rates and output, the basis for expectations of future exchange rates and richer specifications of the foreign-exchange market that include risk. An appendix to this chapter explains the determination of forward exchange rates.
Money, Interest Rates, and Exchange Rates
Chapter 14 introduces the domestic money market, linking monetary factors to short-run exchange-rate determination through the domestic interest rate. The chapter begins with a discussion of the determination of the domestic interest rate. Interest parity links the domestic interest rate to the exchange rate, a relationship captured in a two-quadrant diagram. Comparative statics employing this diagram demonstrate the effects of monetary expansion and contraction on the exchange rate in the short run. Dynamic considerations are introduced through an appeal to the long run neutrality of money that identifies a long-run steady-state value toward which the exchange rate evolves. The dynamic time path of the model exhibits overshooting of the exchange-rate in response to monetary changes.
Price Levels and the Exchange Rate in the Long Run
Chapter 15 develops a model of the long run exchange rate. The long-run exchange rate plays a role in a complete short-run macroeconomic model since one variable in that model is the expected future exchange rate. The chapter begins with a discussion of the law of one price and purchasing power parity. A model of the exchange rate in the long-run based upon purchasing power parity is developed. A review of the empirical evidence, however, casts doubt on this model. The chapter then goes on to develop a general model of exchange rates in the long run in which the neutrality of monetary shocks emerges as a special case. In contrast, shocks to the output market or changes in fiscal policy alter the long run real exchange rate. This chapter also discusses the real interest parity relationship that links the real interest rate differential to the expected change in the real exchange rate. An appendix examines the relationship of the interest rate and exchange rate under a flexible-price monetary approach.
Output and the Exchange Rate in the Short Run
Chapter 16 presents a macroeconomic model
of output and exchange-rate determination in the short run. The chapter
introduces aggregate demand in a setting of short-run price stickiness to
construct a model of the goods market. The exchange-rate analysis presented in
previous chapters provides a model of the asset market. The resulting
model is, in spirit, very close to the classic Mundell-Fleming model.
This model is used to examine the effects of a variety of policies. The
analysis allows a distinction to be drawn between permanent and temporary
policy shifts through the pedagogic device that permanent policy shifts alter
long-run expectations while temporary policy shifts do not. This distinction
highlights the importance of exchange-rate expectations on macroeconomic
outcomes. A case study of
Fixed Exchange Rates and Foreign Exchange Intervention
Chapter 17, the final chapter of this section discusses intervention by the central bank and the relationship of this policy to the money supply. This analysis is blended with the previous chapter's short-run macroeconomic model to analyze policy under fixed rates. The balance sheet of the central bank is used to keep track of the effects of foreign exchange intervention on the money supply. The model developed in previous chapters is extended by relaxing the interest parity condition and allowing exchange-rate risk to influence agents' decisions. This allows a discussion of sterilized intervention. Another topic discussed in this chapter is capital flight and balance of payments crises with an introduction to different models of how a balance of payments or currency crisis can occur. The analysis also is extended to a two-country framework to discuss alternative systems for fixing the exchange-rate as a prelude to Part B.
PART B: International Macroeconomic Policy
This section of the course, which discusses international macroeconomic policy, provides historical and institutional background to complement the theoretical presentation of the previous section. These chapters also provide an opportunity for students to hone their analytic skills and intuition by applying and extending the models learned in Part A to a range of current and historical issues.
The International Monetary System, 1870-1973 (Required
Chapter 18 chronicles the evolution of the international monetary system from the gold standard of 1870 - 1914, through the interwar years, and up to and including the post-war Bretton Woods period. The chapter discusses the price-specie-flow mechanism of adjustment in the context of the discussion of the gold standard. Conditions for internal and external balance are presented through diagrammatic analysis based upon the short-run macroeconomic model of Chapter 16. This analysis illustrates the strengths and weaknesses of alternative fixed exchange rate arrangements. The chapter also draws upon earlier discussion of balance of payments crises to make clear the interplay between "fundamental disequilibrium" and speculative attacks. There is a detailed analysis of the Bretton Woods system that includes a case study of the experience during its decline beginning in the mid-1960s and culminating with its collapse in 1973.
Macroeconomic Policy and Coordination Under
Floating Exchange Rates
Chapter 19 focuses on recent experience under floating exchange rates. The discussion is couched in terms of current debate concerning the advantages of floating versus fixed exchange rate systems. The theoretical arguments for and against floating exchange rates frame two case studies, the first on the experience between the two oil shocks in the 1970s and the second on the experience since 1980. The transmission of monetary and fiscal shocks from one country to another is also considered. Discussion of the experience in the 1980s points out the shift in policy toward greater coordination in the second half of the decade. Discussion of the 1990s focuses on the strong U.S. economy from 1992 on and the extended economic difficulties in Japan. Finally, the chapter considers what has been learned about floating rates since 1973. The appendix illustrates losses arising from uncoordinated international monetary policy using a game theory setup.
skipped
The Global Capital Market: Performance and Policy Problems
The international capital market is the subject of Chapter 21. This chapter draws an analogy between the gains from trade arising from international portfolio diversification and international goods trade. There is discussion of institutional structures that have arisen to exploit these gains. The chapter discusses the Eurocurrency market, the regulation of offshore banking, and the role of international financial supervisory cooperation. The chapter examines policy issues of financial markets, the policy trilemma of the incompatibility of fixed rates, independent monetary policy, and capital mobility as well as the tension between supporting financial stability and creating a moral hazard when a government intervenes in financial markets. The chapter also considers evidence of how well the international capital market has performed by focusing on issues such as the efficiency of the foreign exchange market and the existence of excess volatility of exchange rates
Developing Countries: Growth, Crisis, and Reform
(Required
Chapter 22 discusses issues facing developing countries. The chapter begins by identifying characteristics of the economies of developing countries, characteristics that include undeveloped financial markets, pervasive government involvement, and a dependence on commodity exports. The macroeconomic analysis of previous chapters again provides a framework for analyzing relevant issues, such as inflation in or capital flows to developing countries. Borrowing by developing countries is discussed as an attempt to exploit gains from intertemporal trade and is put in historical perspective. Latin American countries’ problems with inflation and subsequent attempts at reform are detailed. Finally, the East Asian economic miracle is revisited, and the East Asian financial crisis is examined. This final topic provides an opportunity to discuss possible reforms of the world’s financial architecture.