part 3 exchange rates and open-economy macroeconomics 32313 national income accounting and the balance of payments 32314 exchange rates and the foreign exchange market:350384414451an asset approach15 money, interest rates, and exchange rates16 price levels and the exchange rate in the long run17 output and the exchange rate in the short run18 fixed exchange rates and foreign exchange intervention 493part 4 international macroeconomic policy 53453458761619 international monetary systems: an historical overview20 optimum currency areas and the european experience21 financial globalization: opportunity and crisis22 developing countries: growth, crisis, and reform 649mathematical postscriptspostscript to chapter 21: risk aversion and international portfoliodiversification 691credits 698index 699viiiixcontentspreface xvipart 3 exchange rates and open-economy macroeconomics 32313 national income accounting and the balance of payments 323the national income accounts325national product and national income326capital depreciation and international transfers327gross domestic product327national income accounting for an open economy328consumption328investment328government purchases329the national income identity for an open economy329an imaginary open economy329the current account and foreign indebtedness330saving and the current account332private and government saving333case study: government deficit reduction may not increasethe current account surplus334the balance of payments accounts336examples of paired transactions337the fundamental balance of payments identity338the current account, once again339the capital account340the financial account340net errors and omissions341official reserve transactions342case study: the assets and liabilities of the world’s biggest debtor343summary34614 exchange rates and the foreign exchange market: an asset approach 350exchange rates and international transactions351domestic and foreign prices351exchange rates and relative prices353the foreign exchange market354the actors354characteristics of the market355spot rates and forward rates356foreign exchange swaps358futures and options358the demand for foreign currency assets358assets and asset returns359box: nondeliverable forward exchange trading in asia360risk and liquidity362interest rates362exchange rates and asset returns364a simple rule364return, risk, and liquidity in the foreign exchange market366equilibrium in the foreign exchange market367interest parity: the basic equilibrium condition367how changes in the current exchange rate affect expected returns368the equilibrium exchange rate369interest rates, expectations, and equilibrium371the effect of changing interest rates on the current exchange rate372the effect of changing expectations on the current exchange rate373x contentscase study: what explains the carry trade?374summary376appendix: forward exchange rates and coveredinterest parity381384money defined: a brief review385money as a medium of exchange385money as a unit of account385money as a store of value386what is money?386how the money supply is determined386the demand for money by individuals387expected return387risk388liquidity388aggregate money demand388the equilibrium interest rate: the interaction of moneysupply and demand390equilibrium in the money market390interest rates and the money supply392output and the interest rate393the money supply and the exchange rate in the short run393linking money, the interest rate, and the exchange rate394u.s. money supply and the dollar/euro exchange rate395europe’s money supply and the dollar/euro exchangerate396money, the price level, and the exchange rate in the long run398money and money prices399the long-run effects of money supply changes399empirical evidence on money supplies and price levels400money and the exchange rate in the long run401inflation and exchange rate dynamics402short-run price rigidity versus long-run price flexibility402box: money supply growth and hyperinflation in bolivia404permanent money supply changes and the exchange rate404exchange rate overshooting407case study: can higher inflation lead to currency appreciation?the implications of inflation targeting408summary411414the law of one price415purchasing power parity416the relationship between ppp and the law of one price416absolute ppp and relative ppp417a long-run exchange rate model based on ppp418the fundamental equation of the monetary approach41815 money, interest rates, and exchange rates16 price levels and the exchange rate in the long runongoing inflation, interest parity, and ppp420the fisher effect421empirical evidence on ppp and the law of one price424explaining the problems with ppp425trade barriers and nontradables426departures from free competition427differences in consumption patterns and price level measurement427contents xibox: some meaty evidence on the law of one price428ppp in the short run and in the long run430case study: why price levels are lower in poorer countries431beyond purchasing power parity: a general model of long-runexchange rates433the real exchange rate434demand, supply, and the long-run real exchange rate435box: sticky prices and the law of one price: evidencefrom scandinavian duty-free shops436nominal and real exchange rates in long-run equilibrium438international interest rate differences and the real exchange rate440real interest parity442summary443appendix: the fisher effect, the interest rate, and the exchange rateunder the flexible-price monetary approach44817 output and the exchange rate in the short run 451determinants of aggregate demand in an open economy452determinants of consumption demand452determinants of the current account453how real exchange rate changes affect the current account454how disposable income changes affect the current account454the equation of aggregate demand455the real exchange rate and aggregate demand455real income and aggregate demand455how output is determined in the short run456output market equilibrium in the short run: the dd schedule458output, the exchange rate, and output market equilibrium458deriving the dd schedule459factors that shift the dd schedule459asset market equilibrium in the short run: the aa schedule462output, the exchange rate, and asset market equilibrium462deriving the aa schedule464factors that shift the aa schedule464short-run equilibrium for an open economy: putting the dd and aaschedules together465temporary changes in monetary and fiscal policy467monetary policy468fiscal policy468policies to maintain full employment469inflation bias and other problems of policy formulation471permanent shifts in monetary and fiscal policy472a permanent increase in the money supply472adjustment to a permanent increase in the money supply472a permanent fiscal expansion474xii contentsmacroeconomic policies and the current account476gradual trade flow adjustment and current account dynamics477the j-curve477exchange rate pass-through and inflation479box: exchange rates and the current account480the liquidity trap481summary484appendix 1: intertemporal trade and consumption demand488appendix 2: the marshall-lerner condition and empiricalestimates of trade elasticities49018 fixed exchange rates and foreign exchange intervention 493why study fixed exchange rates?494central bank intervention and the money supply495the central bank balance sheet and the money supply495foreign exchange intervention and the money supply497sterilization497the balance of payments and the money supply498how the central bank fixes the exchange rate499foreign exchange market equilibrium under a fixed exchange rate499money market equilibrium under a fixed exchange rate500a diagrammatic analysis501stabilization policies with a fixed exchange rate502monetary policy502fiscal policy503changes in the exchange rate504adjustment to fiscal policy and exchange rate changes506balance of payments crises and capital flight506managed floating and sterilized intervention509perfect asset substitutability and the ineffectiveness of sterilizedintervention509box: brazil’s 1998–1999 balanceof payments crisis510foreign exchange market equilibrium under imperfect asset substitutability511the effects of sterilized intervention with imperfect asset substitutability512evidence on the effects of sterilized intervention513reserve currencies in the world monetary system514the mechanics of a reserve currency standard515the asymmetric position of the reserve center515the gold standard516the mechanics of a gold standard516symmetric monetary adjustment under a gold standard517benefits and drawbacks of the gold standard517the bimetallic standard518the gold exchange standard519case study: the demand for international reserves519summary523appendix 1: equilibrium in the foreign exchange marketwith imperfect asset substitutability528demand528supply529equilibrium529appendix 2: the timing of balance of payments crises531part 4 international macroeconomic policy 53419 international monetary systems: an historical overview 534macroeconomic policy goals in an open economy535internal balance: full employment and price level stability536external balance: the optimal level of the current account537classifying monetary systems: the open-economy trilemma539contents xiiiinternational macroeconomic policy underthe gold standard, 1870–1914540origins of the gold standard541external balance under the gold standard541the price-specie-flow mechanism541the gold standard “rules of the game”: myth and reality542internal balance under the gold standard543box: hume versus the mercantilists544case study: gold smuggling and the birth of the uae dirham544the interwar years, 1918–1939546the fleeting return to gold546international economic disintegration546case study: the international gold standard and the great depression547the bretton woods system and the international monetary fund548goals and structure of the imf549convertibility and the expansion of private financial flows550speculative capital flows and crises551analyzing policy options for reaching internal and external balance551maintaining internal balance552maintaining external balance553expenditure-changing and expenditure-switching policies554the external balance problem of the united states under bretton woods555case study: the end of bretton woods, worldwide inflation,and the transition to floating rates556the mechanics of imported inflation558assessment559the case for floating exchange rates559monetary policy autonomy.560symmetry.561exchange rates as automatic stabilizers561exchange rates and external balance563case study: monetary regimes in europe post bretton woods563macroeconomic interdependence under a floating rate567case study: transformation and crisis in the world economy568what has been learned since 1973?574monetary policy autonomy.574symmetry.575the exchange rate as an automatic stabilizer576external balance576the problem of policy coordination577are fixed exchange rates even an option for most countries?577summary578appendix: international policy coordination failures58420 optimum currency areas and the european experience 587how the european single currency evolved589what has driven european monetary cooperation?589the european monetary system, 1979–1998590german monetary dominance and the credibility theory of the ems591market integration initiatives592european economic and monetary union593the euro and economic policy in the euro zone594the maastricht convergence criteria and the stability and growth pact594xiv contentsthe european system of central banks595the revised exchange rate mechanism596the theory of optimum currency areas596economic integration and the benefits of a fixed exchange rate area: the ggschedule596economic integration and the costs of a fixed exchange rate area: the llschedule598the decision to join a currency area: putting the gg and ll schedulestogether600what is an optimum currency area?602case study: is europe an optimum currency area?602the future of emu608box: the euro zone debt crisis of 2010610summary61221 financial globalization: opportunity and crisis 616the international capital market and the gains from trade617three types of gain from trade617risk aversion618portfolio diversification as a motive for international asset trade619the menu of international assets: debt versus equity620international banking and the international capital market620the structure of the international capital market621offshore banking and offshore currency trading622the growth of eurocurrency trading623the importance of regulatory asymmetries624the shadow banking system624regulating international banking625the problem of bank failure625case study: moral hazard627difficulties in regulating international banking628box: the simple algebra of moral hazard629international regulatory cooperation629case study: two episodes of market turmoil: ltcm and the global financialcrisis of 2007–2009631box: foreign exchange instability and central bank swap lines636how well have international financial markets allocated capital and risk?638the extent of international portfolio diversification638the extent of intertemporal trade640onshore-offshore interest differentials641the efficiency of the foreign exchange market641summary64522 developing countries: growth, crisis, and reform 649income, wealth, and growth in the world economy650the gap between rich and poor650has the world income gap narrowed over time?651structural features of developing countries653developing-country borrowing and debt656the economics of financial inflows to developing countries656the problem of default657alternative forms of financial inflow659the problem of “original sin”661the debt crisis of the 1980s662reforms, capital inflows, and the return of crisis663east asia: success and crisis666the east asian economic miracle666contents xvbox: why have developing countries accumulated such high levelsof international reserves?667asian weaknesses669box: what did east asia do right?670the asian financial crisis671spillover to russia672case study: can currency boards make fixed exchange rates credible?674lessons of developing-country crises676reforming the world’s financial “architecture”677capital mobility and the trilemma of the exchange rate regime678“prophylactic” measures679coping with crisis680case study: china’s undervalued currency681understanding global capital flows and the global distribution of income:is geography destiny?683summary686postscript to chapter 21: risk aversion and international portfoliodiversification691an analytical derivation of the optimal portfolio691a diagrammatic derivation of the optimal portfolio692the effects of changing rates of return695credits 698index 699