Exam (elaborations) International Economics (IE & IEO)
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International Economics
Instelling
Universiteit Antwerpen (UA)
All exam questions I could get my hands on for IE & IEO. Some are verbatim from the exam. Many of the questions get repeated each year so if you know these questions and their answers chances are you'll do fairly well on the exam. All questions are already answered using my own summary of IE & IEO ...
UITLEG: Dit zijn alle examenvragen waar ik aan ben geraakt van International
Economics die ik heb gemaakt in aanloop naar mijn examen. Verschillende hiervan
zijn ook effectief op mijn examens gekomen. Dus zeker de moeite om ze te maken.
1) The finance minister of your country “highland” wants your input in understanding
the technicalities of the balance of payments of the country.
a) Explain the basic conceptual issues of a BOP to show why it is always
“balanced”. How do we then generally define a BOP balance, and when do we
have a BOP problem?
The (annual) BoP of a country reflects all the cross-border transactions of goods,
services, income and financial assets between domestic households, businesses,
and government of a country and residents of the rest of the world in monetary
terms.
It consists of three accounts; the current account (which tracks the ingoing and
outgoing goods and services), the capital account (which is the smallest account
and tracks the financial flows of non-productive and non-financial assets), and the
financial account (which tracks the cross-border transactions).
The BOP should always be balanced, meaning that the current account should
always be balanced against the combination of the capital and financial account.
This balance is measured through a double-entry bookkeeping system in the BOP
whereby one entry indicates the nature of the transaction, and the other entry
indicates the amount of foreign currency paid or received.
Each entry will have the same value but will have a different sign, either a minus
or a plus to indicate a debit or a credit. Credit meaning that money comes into the
country due to export, decrease external liabilities and increase forex reserves.
Vice versa with debit. Because export causes forex inflow (+) so forex inflow itself
is – in BOP. (country gains forex (+) cuz of export (-) so forex inflow itself is (-) cuz
there is a decrease in foreign liabilities because of an increase in forex.)
A BOP problem happens when an overall/global deficit occurs, indicating a loss of
forex reserves over the period.
An additional BOP problem then occurs when a country does not possess enough
forex reserves to bridge this gap.
b) Explain the role(s) of having (a sufficient level of) international reserves.
A sufficient level of forex reserves is important as this acts as a country’s reserves
assets when it encounters a BOP crisis, a currency crisis, or other financial crises.
These forex reserves can then be used to remedy this crisis. Depending on a
country’s exchange rate regime, a country must have more forex reserves if it has
a fixed ER. This is because fixed ER regimes have their currency pegged to another
currency’s value, often the US dollar, which is a floating currency, meaning the
value of the currency depends on the free market (supply and demand) so its
value is constantly fluctuating.
So when the value of this pegged currency appreciates, these fixed ER regimes
must revaluate their currency as well to maintain the value of their currency.
, However, this requires having more forex reserves to then buy their own currency
to increase demand and decrease supply in the hopes of boosting or stabilizing
the currency’s value. Simultaneously, fixed ER regimes are also more vulnerable to
speculative attacks on currencies and other financial assets, which also require a
fixed ER regime to have more forex reserves to step in when needed compared to
a floating ER regime.
c) Briefly explain to the Minister the particular role the IMF could play when
Highland would have a BOP problem.
The IMF’s role is two-fold: crisis prevention and crisis resolution. If highland has a
BOP problem, the country can go to the IMF and ask for a loan, which comes with
a conditionality. This conditionality to the loan requires a country to partake in
structural reforms in its economy to increase the probability of solving the crisis.
The IMF uses its knowledge from its crisis prevention mechanism: monitoring
where it saw what Highland did wrong. This conditionality is binding.
The loan is made up of the quotas or membership fees of the IMF’s members and
depending on whether highland is a HIC, MIC or LIC it will have to pay market rate
interest rates to the quota countries for which the quotas are used to issue the
loan. LICs no longer pay interest rates since the global financial crisis and now a
Fund pays this for them.
Additionally, countries are required to pay an additional mark-up of about 1% on
the loan to cover the operational costs of the IMF.
Additionally, the IMF also provides technical assistance and policy advice to
member countries when countries ask for this, this is part of their crisis
prevention mechanism so when Highland is already experiencing a persistent BOP
problem this is a bit too late but still worth mentioning that member states can
ask the IMF for help to set up financial sector designs and reforms as the IMF
should know best what works best. This is non-binding.
2) Speculation is a central concept in investment strategies.
a) Define the concept as opposed to hedging and arbitrage:
Hedging: using a forward rate contract to create a risk-free management position
when exchanging currencies. A forward contract is an agreement between two
parties to exchange a specified amount of currency at a predetermined exchange
rate (based on what the market thinks the spot rate will be when the exchange
will take place) on a future date. Forwards here just ensure that the investors
close their position for risks.
Speculation: the opposite of hedging and means that an investor deliberately
opens themselves up to an exchange rate risk in the hopes of making a profit.
Speculators aim to capitalize on their expectations of future exchange rate
movements to generate gains. It requires speculators to predict future market
movements, which is unpredictable. So slight changes can lead to major gains or
losses for speculators.
This is often paired with short-selling: selling borrowed assets at forward
exchange rate price that you then buy back when the price hopefully falls below
the price than what you sold it for.
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