Transcript Lecture 26 - Cornell University

Trade & Growth
Lecture 26
Dr. Jennifer P. Wissink
©2016 Jennifer P. Wissink, all rights reserved.
November 29, 2016
Monetary Policy w/Flexible Exchange Rates

Recall: Expansionary Monetary Policy

So... with relatively lower interest rates in the US 
– an increase in the demand for pounds and
– a decrease in the supply of pounds 
– the dollar depreciates 
– EX  and IM   a boost in AEd  Y  a larger multiplier effect!

So... if the purpose of the Fed is to stimulate the economy, dollar
depreciation might be a good thing – it helps increase the efficacy of
the monetary injection.
Fiscal Policy w/Flexible Exchange Rates

Consider an increase in G to increase Y*

So... with relatively higher interest rates in the US 
– an increase in the supply of pounds and
– a decrease in the demand for pounds 
– the dollar appreciates 
– EX  and IM   AEd falls  Y  a smaller multiplier effect.

So... if the purpose of the “fiscal guys” is to stimulate the economy,
dollar appreciation is a bad thing – it decreases the efficacy of the
fiscal injection.

Note: the Fed could help bolster the multiplier by doing what?
Some Practice
Question 1:
With flexible exchange rates, if
the FED increases the money
supply we anticipate that
Question 2:
With flexible exchange rates, if
the government increases “G” we
anticipate that
A.
B.
C.
D.
E.
A.
B.
C.
D.
E.
the dollar appreciates.
the dollar depreciates.
the pound weakens.
the pound depreciates.
two answers above are
correct
the dollar appreciates.
the dollar depreciates.
the pound strengthens.
the pound appreciates.
two answers above are
correct
Question 3:
With flexible exchange rates, the
“power” of a monetary injection is
Question 4:
With flexible exchange rates, the
“power” of a fiscal injection is
A.
B.
A.
B.
enhanced.
diminished.
enhanced.
diminished.
Policy Choices: Hard Sometimes
Domestic
Problem
Domestic
Solution
Trade
Problem
High
unemployment
BOT
deficit
Inflation
BOT
deficit
High
unemployment
BOT
Surplus
Inflation
BOT
Surplus
Trade
Solution
Both
Problems
Two V.I.P. International Policy Institutions

The International Monetary Fund
– The International Monetary Fund (IMF) is an organization of 189
countries, envisioned in 1944 by John Maynard Keynes & Harry
Dexter White, created in 1945, it works to foster global monetary
cooperation, secure financial stability, facilitate international trade,
promote high employment and sustainable economic growth, and
reduce poverty around the world.
» It helps governments experiencing financial trouble.
» Its home page: http://www.imf.org/external/
» It is a specialized agency of the United Nations but has its own charter,
governing structure, and finances. Its members are represented through
a quota system broadly based on their relative size in the global
economy.
– Christine Lagarde, Managing Director of the International Monetary
Fund since 5 July 2011
Two V.I.P. International Policy Institutions

The World Bank Group http://www.worldbank.org/ consists of five
organizations:
– (1) The International Bank for Reconstruction and Development (IBRD) which lends
to governments of middle-income and creditworthy low-income countries.
– (2) The International Development Association (IDA) which provides interest-free
loans, called credits, and grants to governments of the poorest countries.
» Together, IBRD and IDA make up the World Bank.
– (3) The International Finance Corporation (IFC) is the largest global development
institution focused exclusively on the private sector. It helps developing countries
achieve sustainable growth by financing investment, mobilizing capital in
international financial markets, and providing advisory services to businesses and
governments.
– (4) The Multilateral Investment Guarantee Agency (MIGA), created in 1988 promotes
foreign direct investment into developing countries to support economic growth,
reduce poverty, and improve people’s lives. MIGA fulfills this mandate by offering
political risk insurance (guarantees) to investors and lenders.
– (5) The International Centre for Settlement of Investment Disputes (ICSID) provides
international facilities for conciliation and arbitration of investment disputes.
– The organizations that make up the World Bank Group are owned by the
governments of member nations (188), which have the ultimate decision-making
power within the organizations on all matters, including policy, financial or
membership issues.

Nice report on N.P.R.
– http://www.npr.org/templates/story/story.php?storyId=103516800
Cornell at The World Bank

Kaushik Basu, Senior Vice President and Chief Economist, World Bank
–
Kaushik Basu became Senior Vice President for Development Economics and World
Bank Chief Economist on October 1, 2012. Prior to that, he was Chief Economic
Adviser to the Government of India. He is on leave from his position as Professor of
Economics and the C. Marks Professor of International Studies at Cornell University.
He has served as Chairman of Cornell’s Department of Economics and has also
directed the university's Center for Analytic Economics and headed the Program for
Comparative Economic Development. Earlier Mr. Basu was Professor of Economics at
the Delhi School of Economics. In 1992 he founded the Centre for Development
Economics in Delhi and was its first Executive Director. He is also a founding member
of the Madras School of Economics. Mr. Basu has held visiting positions at the
Institute for Advanced Study, Princeton, and the London School of Economics, where
he was Distinguished Visitor in 1993. He has been a Visiting Professor at Harvard
University, Princeton University and M.I.T. He holds a PhD in economics from the
London School of Economics. Mr. Basu is has received many economics awards in
India and has held advisory posts with the ILO, the World Bank, the Reserve Bank of
India. He is Editor of the journal Social Choice and Welfare, and served or serves on
numerous Editorial Boards, including the Journal of Economic Perspectives, Journal of
Development Economics, Journal of Public Economics, and the World Bank Economic
Review. Mr. Basu’s contributions to economics span development economics, welfare
economics, industrial organization and public economics. He has published widely and
his most recent books are Beyond the Invisible Hand: Groundwork for a New
Economics published by Princeton University Press and Penguin, and An Economist’s
Miscellany, published by Oxford University Press. He is the second World Bank Chief
Economist from a developing country.
Foreign Films: A Classic Hit Movie
(it’s a Greek tragedy)
Greece & the Euro Crises

First a little history reminder...
– “Eurozone” came out of the creation of the
European Union.
» The European Union was formally established when the
Maastricht Treaty came into force on 1 November 1993.
» There are currently 28 E.U. countries.
–
–
–
–
Euro started on Jan 1 1999 with 11 countries.
Greece was admitted on Jan 1 2001.
Now there are 19 Euro countries.
Coins and bank notes were issues Jan 1 2002.
The 19 (of 28) Eurozone Countries
Austria, Belgium, Cyprus,
Estonia, Finland, France,
Germany, Greece,
Ireland, Italy, Latvia,
Lithuania, Luxembourg,
Malta, the Netherlands,
Portugal, Slovakia,
Slovenia, and Spain.
The Problems Greece Had










i>clicker question:
Before the Euro the currency of
Greece was called the
Large Pubic Sector
A. Kronos
B. Drachma
Generous Public Sector
C. Grecian
Generous benefits and pensions
D. Dinar
Inability to collect taxes
E. Tolar
Growth via G, financed by debt
Large debt to GDP ratio
Suddenly... financial crises, recession, tax revenues down, and no one
wants to loan Greece money as its bonds come due.
Greece stands poised to default on its debt obligations coming due.
That happens, all he## breaks loose.
Why not just let it happen? BAD IDEA.
– All the EU countries are intertwined holding each others sovereign bonds,
and the U.S. is in the mix too.
– Would throw Europe into a recession.
– And what about the U.S.?
» We export a lot to Europe, so it would hurt us, too.
» U.S. firms and E.U. firms are very intertwined, so there would be repercussions
here as well.
» The global trading community needs a couple/three strong and stable currencies,
and the Euro and Dollar function in many ways to facilitate international trade.
The UNCERTAINTY that would be a consequence of a Greek default would be
very painful.
The Fix For Greece & The Euro

The IMF and the other EU countries, especially Eurozone countries, loaned Greece
Euros to meet its debt obligations.

What did Greece have to agree to do? LOTS! Mostly lots of austerity.
–
–
–
–
–
–
–
–
–

Spend less
Tax more
Get more efficient
Cut deficit by 10% in three years
Aim to cut its deficit to below 3 percent of gross domestic product by 2014 from 13.6 percent
Public sector wage cuts and freezes (public sector was 50% of GDP), stop wasteful perks,
phase out many public sector jobs
Pension cuts, raise retirement age to 67
Some feel...austerity measures needed, it’s a golden opportunity to eliminate waste and
modernize the economy
"We will be in recession for the next few years, which means that we have to run faster to
reduce the deficit," Mr. Papaconstantinou said.
Listen to this @ NPR... For Bailout, Ordinary Greeks Will Sacrifice A Lot, by Sylvia
Poggioli
–
http://www.npr.org/templates/story/story.php?storyId=126468794
How Did People in Greece Feel
About It?
How Did It Go For Greece?

Q&A: Greek debt crisis
– http://www.bbc.co.uk/news/business-13798000

Financial glossary
– http://www.bbc.co.uk/news/business-15060411

Greek MPs vote through mass job cuts - The Greek
parliament approves 15,000 civil service layoffs in return
for more EU/IMF bailout money, as hundreds protest in
the streets outside.
– http://www.bbc.co.uk/go/em/fr/-/news/world-europe-22328710

A 10-Year-Old Boy's Solution To The Euro Crisis,
In 1 Picture
– http://www.npr.org/blogs/money/2012/04/03/149904853/a-10year-old-boys-solution-to-the-euro-crisis-in-1-picture
Greece Makes a Comeback

Greek politics: Remaking the political landscape
– A new burst of optimism about the economy is not yet luring many
voters back to the two mainstream parties
– Apr 19th 2014, The Economist
– http://www.economist.com/news/europe/21601039-new-burstoptimism-about-economy-not-yet-luring-many-voters-back-twomainstream

Some numbers
– First bond offering in 6 years did ok.
– Tourism is up.
– Angela Merkel has said some nice
things.
– BUT: UR=26.7%, only 1/10 get benefits,
many private sector employees owed
salaries, 35% live in poverty
But Then...

The James Dean Movie That Explains the Greek
Debt Negotiations
– http://www.nytimes.com/2015/04/28/upshot/the-james-deanmovie-that-explains-the-greek-debtnegotiations.html?_r=0&abt=0002&abg=1
– Yanis Varoufakis, the Greek finance minister from Jan 2015
to July 2015. “His hard-edge approach in talks to
restructure the nation’s debt was seen as hurting the
negotiations – but was it?”
– Then there was the referendum.
– Then there was the capitulation to austerity.
– Then there were changes.
» Euclid Tsakalotos (July –Aug)
» Giorgos Houliarakis (Aug – Sept)
» Euclid Tsakalotos (Sept – current)
What Can We Learn from
Greece?
 How
likely is it that something similar to
the Greek story develops in some other
country? In “our” country?
 How is the Greek story similar?
 How is the Greek story different?
Last But Not Least
G
RO
 Growth
WT
H!!!
and the PPF: Easier Said Than Done
Long-Run Growth
 Economic
Growth (the layman)
– An increase in the total output of an economy.
 Modern
Economic Growth (the historian)
– The period of rapid and sustained increase in output
that began in the Western world with the Industrial
Revolution.
 Economic
Growth (the humanist)
– An increase in people’s standard of living
 Economic
Growth (the economist)
– An increase in real GDP per capita!
– An increase in the growth rate of output per
worker?
The Growth Process & The Industrial Revolution:
From Agriculture to Industry

Beginning in England around 1750, technical change and capital accumulation
increased productivity significantly in two important industries: agriculture and
textiles.

New inventions and new machinery meant that more could be produced with
fewer resources.

Growth meant new products, more output, and wider choice.

A rural agrarian society was quickly transformed into an urban industrial society.

This type of economic growth continues today in the developed world, and while
the underlying process is still the same, the face is different.

Growth comes from a bigger & better workforce and more productive workers.

Higher productivity comes from tools (physical capital); a better-educated and
more highly skilled workforce (human capital); and increasingly from innovation,
technical change, and newly developed products and services.
Some Growth Numbers
TABLE 16.1 Growth of Real GDP: 1996–2013
Country
Average Growth Rates per Year,
Percentage Points, 1996–2013
United States
2.4
Japan
0.8
Germany
1.3
France
1.6
United Kingdom
2.1
China
9.6
India
6.8
Sub-Saharan Africa
5.6
Source: Economic Report of the President, 2015, Table B-4

NOTES:
– The “catch up” theory states that the growth rates of less developed countries will
exceed the growth rates of developed countries, allowing the less developed
countries to catch up.
– The idea that gaps in national incomes tend to close over time is called “convergence
theory”.
– An economic historian coined the term the “advantages of backwardness” over 50
years ago to describe the phenomenon of less developed countries leaping ahead by
borrowing technology from more developed countries.