Continues a series of publications devoted to the study of fundamental analysis of the international currency market (FOREX).
In the previous issue, we examined the relationship between public deficits and exchange rate changes using a simple model describing the mechanism of exchange rate changes in long and medium term.
Today we will examine the relationship of international trade and exchange rate changes, using all the same simple model.
International trade and currency
There is widespread opinion that the trade surplus - it was good, and the negative - a bad thing. Also often considered necessary to support domestic producers who can not withstand the competition from cheaper imported goods, as well as be promoted exit of domestic producers to international markets, and winning them a leading position.
The ultimate goal of government policy in relation to these processes is not an impact on exchange rates in order to achieve their specified levels. It is assumed that all such activities must lead to an increase in the welfare of the subjects of the national economy as a whole. Changes in exchange rates may also serve as a tool of this policy, and just be a byproduct of its effect.
However, understanding these macroeconomic processes, properly identifying the main trends in foreign exchange rates, with information, foreign trade policy which tends to hold the government of a country.
Who wins and who loses from international trade
Before proceeding to consider the main issues of this publication has rendered in the title, would be appropriate to brief the main theoretical aspects related to international trade *.
So, first of all, it is necessary to answer the question, what would the introduction of free international trade in the domestic economy, where it is completely absent.
There may be three options:
. level of domestic prices somewhat lower than the world,
. domestic prices above world,
. level of domestic prices in line with the world.
* This issue is extremely far-reaching and detailed consideration in this publication is not possible. Everyone interested is encouraged to approach books on economic theory.
The first situation - the level of domestic prices slightly lower than the world.
What happens in this case? The country in this case will become a net exporter since the whole export goods abroad will be cheaper than they sell in the domestic market and import are generally less profitable than to consume goods produced domestically. As a result, domestic prices will rise to the world.
Suffer from the consumers who will buy goods at higher prices than before. And some consumers simply can not afford to buy the same quantity of goods on the new prices.
Will benefit manufacturers, who can now realize more than ever the number of products at higher world prices. Profits of producers, thus greatly increased.
In general, the benefit of producers exceed the losses of consumers, ie to a large extent the national economy will benefit.
The second situation - the level of domestic prices slightly higher than the world.
In this case the country would become a net importer, since the whole import goods from abroad will be cheaper than producing them domestically, the export to domestic prices will generally nekonkurentosposoben in international markets. As a result, domestic prices would drop to the level of the world.
Affected by the national producers, which will have to come to terms with the realization of lower product at lower prices. However, the gains of consumers who can now buy more goods with lower prices, producers perekroet loss. Thus, the national economy as a whole, again, will win.
The third situation - the level of domestic prices in line with the world.
This situation seems unlikely, but nevertheless consider it.
In this case the country will export as much as imports, ie trade balance will be zero.
The benefits of international trade is reflected in structural changes. In industries with lower prices will prevail exports in industries with higher - import. In general, however, in this situation through the use of comparative advantages, should benefit consumers and producers, and thus the entire national economy.
You can sum up the results. From free international trade, national economies participating countries will benefit in any case, regardless of whether a net exporter or a net importer of a country.
Government policies on international trade
As has been said, the state could adopt policies to support domestic producers who can not withstand the competition from cheaper imported goods, as well as facilitating the exit of domestic producers to international markets, and winning is their leading positions.
The methods by which these policies can be carried out, may be as follows: the introduction of import tariffs and quotas to restrict imports, subsidies for firms exporting to promote exports, as well as the introduction of quotas for export to a country under pressure from the Government (the so-called "voluntary export restraints").
We will not delve into consideration all of these activities, however, noted the following: any of the methods that restrict freedom of international trade, in general, leads to losses for the national economy, they were applied.
Nevertheless, these events can be caused, and partly justified by the following reasons.
First, there is an opportunity to avoid a drastic reduction of jobs in uncompetitive industries in the short term, although in the longer-term workers from the less competitive industries pereberutsya more competitive.
Secondly, these activities can be carried out by considerations of national economic security (support for strategic industries).
And thirdly, it can be to support promising new industries, while developing them into "green environment" may not give the effect, which is expected of them.
And finally, it can be protected from unfair competition from foreign producers.
Let us now consider the impact of foreign trade policy of the government to change the exchange rate with the help of our model.
Suppose the government, concerned about "alarming" increase in the negative trade balance, decides to take action and imposes quotas on imports of products of one of the least competitive industries.
Of course it immediately lead to a reduction in imports and thus reduce the negative trade balance, ie growth of net exports.
Let us turn to the schedule.
Fig. 1. The influence of foreign trade policy of the state on the exchange rate.
Thus, net exports rose Constant ratio of internal and external prices. The curve of net exports has shifted upward, ie, right.
Because net exports in our model determines the amount of demand for domestic currency, respectively, and increased demand. Since the real interest rate, and hence the value of net foreign investment remained unchanged, the proposal of the national currency remained at the same level. As a result, the real exchange rate increased from the level of Er1 to Er2 that has been displaying in the proportional increase in the nominal exchange rate.
In the meantime, the case with the net exports (trade surplus)? He remained the same!
In fact, nothing surprising in that there is no paradox. The growth of the nominal exchange rate led to the goods in the domestic market have become relatively more expensive compared to foreign. This encourages imports while making exports less attractive, and both these trends are working on compensation of growth of net export of goods and services resulting from the introduction of quotas. As a result of reduced imports, and exports and trade balance remains unchanged.
Any measure aimed at restricting the import or export promotion would lead to similar consequences - the growth rate of the national currency with the same ratio of exports and imports.
Similarly, you can analyze and activities related to export restrictions. All will be accurate to the contrary - the exchange rate drops again, with a constant ratio of exports and imports.
Thus, we can do the following: foreign trade policy has an impact only on the exchange rate, but not on the trade balance.
As evidence, let's show is already known from previous publications of the identity:
NX = NFI = S - I
Net exports equal net foreign investment, which in turn are equal to domestic savings minus domestic investment. Different types of trade policy does not alter the trade balance, because they do not affect national savings and domestic investment.
In order to really influence the ratio of exports and imports, the Government needs to engage in activities that entail changes in the real interest rate. In this case, change the value of net foreign investment and foreign trade surplus. And, of course, the changes will affect the exchange rate of national currency. How does - it is depends on what actions will the government, and how they appear to value the real interest rate.
In the meantime, with certainty, it can be concluded.
If we know that the government of a country intends to carry out activities to restrict the import or export promotion, it should be seen as a factor contributing to the strengthening of the national currency of the country, and, accordingly, to take into account when making trading decisions.
If the Government plans to introduce measures to limit exports, it must be regarded as a signal to reduce the likelihood of future exchange rate.
In the previous issue, we examined the relationship between public deficits and exchange rate changes using a simple model describing the mechanism of exchange rate changes in long and medium term.
Today we will examine the relationship of international trade and exchange rate changes, using all the same simple model.
International trade and currency
There is widespread opinion that the trade surplus - it was good, and the negative - a bad thing. Also often considered necessary to support domestic producers who can not withstand the competition from cheaper imported goods, as well as be promoted exit of domestic producers to international markets, and winning them a leading position.
The ultimate goal of government policy in relation to these processes is not an impact on exchange rates in order to achieve their specified levels. It is assumed that all such activities must lead to an increase in the welfare of the subjects of the national economy as a whole. Changes in exchange rates may also serve as a tool of this policy, and just be a byproduct of its effect.
However, understanding these macroeconomic processes, properly identifying the main trends in foreign exchange rates, with information, foreign trade policy which tends to hold the government of a country.
Who wins and who loses from international trade
Before proceeding to consider the main issues of this publication has rendered in the title, would be appropriate to brief the main theoretical aspects related to international trade *.
So, first of all, it is necessary to answer the question, what would the introduction of free international trade in the domestic economy, where it is completely absent.
There may be three options:
. level of domestic prices somewhat lower than the world,
. domestic prices above world,
. level of domestic prices in line with the world.
* This issue is extremely far-reaching and detailed consideration in this publication is not possible. Everyone interested is encouraged to approach books on economic theory.
The first situation - the level of domestic prices slightly lower than the world.
What happens in this case? The country in this case will become a net exporter since the whole export goods abroad will be cheaper than they sell in the domestic market and import are generally less profitable than to consume goods produced domestically. As a result, domestic prices will rise to the world.
Suffer from the consumers who will buy goods at higher prices than before. And some consumers simply can not afford to buy the same quantity of goods on the new prices.
Will benefit manufacturers, who can now realize more than ever the number of products at higher world prices. Profits of producers, thus greatly increased.
In general, the benefit of producers exceed the losses of consumers, ie to a large extent the national economy will benefit.
The second situation - the level of domestic prices slightly higher than the world.
In this case the country would become a net importer, since the whole import goods from abroad will be cheaper than producing them domestically, the export to domestic prices will generally nekonkurentosposoben in international markets. As a result, domestic prices would drop to the level of the world.
Affected by the national producers, which will have to come to terms with the realization of lower product at lower prices. However, the gains of consumers who can now buy more goods with lower prices, producers perekroet loss. Thus, the national economy as a whole, again, will win.
The third situation - the level of domestic prices in line with the world.
This situation seems unlikely, but nevertheless consider it.
In this case the country will export as much as imports, ie trade balance will be zero.
The benefits of international trade is reflected in structural changes. In industries with lower prices will prevail exports in industries with higher - import. In general, however, in this situation through the use of comparative advantages, should benefit consumers and producers, and thus the entire national economy.
You can sum up the results. From free international trade, national economies participating countries will benefit in any case, regardless of whether a net exporter or a net importer of a country.
Government policies on international trade
As has been said, the state could adopt policies to support domestic producers who can not withstand the competition from cheaper imported goods, as well as facilitating the exit of domestic producers to international markets, and winning is their leading positions.
The methods by which these policies can be carried out, may be as follows: the introduction of import tariffs and quotas to restrict imports, subsidies for firms exporting to promote exports, as well as the introduction of quotas for export to a country under pressure from the Government (the so-called "voluntary export restraints").
We will not delve into consideration all of these activities, however, noted the following: any of the methods that restrict freedom of international trade, in general, leads to losses for the national economy, they were applied.
Nevertheless, these events can be caused, and partly justified by the following reasons.
First, there is an opportunity to avoid a drastic reduction of jobs in uncompetitive industries in the short term, although in the longer-term workers from the less competitive industries pereberutsya more competitive.
Secondly, these activities can be carried out by considerations of national economic security (support for strategic industries).
And thirdly, it can be to support promising new industries, while developing them into "green environment" may not give the effect, which is expected of them.
And finally, it can be protected from unfair competition from foreign producers.
Let us now consider the impact of foreign trade policy of the government to change the exchange rate with the help of our model.
Suppose the government, concerned about "alarming" increase in the negative trade balance, decides to take action and imposes quotas on imports of products of one of the least competitive industries.
Of course it immediately lead to a reduction in imports and thus reduce the negative trade balance, ie growth of net exports.
Let us turn to the schedule.
Fig. 1. The influence of foreign trade policy of the state on the exchange rate.Thus, net exports rose Constant ratio of internal and external prices. The curve of net exports has shifted upward, ie, right.
Because net exports in our model determines the amount of demand for domestic currency, respectively, and increased demand. Since the real interest rate, and hence the value of net foreign investment remained unchanged, the proposal of the national currency remained at the same level. As a result, the real exchange rate increased from the level of Er1 to Er2 that has been displaying in the proportional increase in the nominal exchange rate.
In the meantime, the case with the net exports (trade surplus)? He remained the same!
In fact, nothing surprising in that there is no paradox. The growth of the nominal exchange rate led to the goods in the domestic market have become relatively more expensive compared to foreign. This encourages imports while making exports less attractive, and both these trends are working on compensation of growth of net export of goods and services resulting from the introduction of quotas. As a result of reduced imports, and exports and trade balance remains unchanged.
Any measure aimed at restricting the import or export promotion would lead to similar consequences - the growth rate of the national currency with the same ratio of exports and imports.
Similarly, you can analyze and activities related to export restrictions. All will be accurate to the contrary - the exchange rate drops again, with a constant ratio of exports and imports.
Thus, we can do the following: foreign trade policy has an impact only on the exchange rate, but not on the trade balance.
As evidence, let's show is already known from previous publications of the identity:
NX = NFI = S - I
Net exports equal net foreign investment, which in turn are equal to domestic savings minus domestic investment. Different types of trade policy does not alter the trade balance, because they do not affect national savings and domestic investment.
In order to really influence the ratio of exports and imports, the Government needs to engage in activities that entail changes in the real interest rate. In this case, change the value of net foreign investment and foreign trade surplus. And, of course, the changes will affect the exchange rate of national currency. How does - it is depends on what actions will the government, and how they appear to value the real interest rate.
In the meantime, with certainty, it can be concluded.
If we know that the government of a country intends to carry out activities to restrict the import or export promotion, it should be seen as a factor contributing to the strengthening of the national currency of the country, and, accordingly, to take into account when making trading decisions.
If the Government plans to introduce measures to limit exports, it must be regarded as a signal to reduce the likelihood of future exchange rate.
Andrew Khamidullin
to Forex Magazine
fxtrade@tomsk.ru
to Forex Magazine
fxtrade@tomsk.ru
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