Q57. If the government devalues the currency, will this help my business?
Governments sometimes have control over the exchange rates at which their currencies trade at relative to other countries. It may make sense to decide to devalue the currency in times of economic difficulty. A devaluation is just a downward movement in a country's exchange rate relative to other countries' exchange rates.
If there is a balance of payments deficit, then by devaluing the country makes its imports more expensive (since its currency buys less of other currencies), and its exports cheaper (since other currencies buy more of its goods and services for the same amount of their own currency), thus boosting demand at home and abroad for locally-produced goods.
If the economy is small and open, then the types of goods it imports and exports will be very important, because imports and exports will make up a large proportion of the total goods and services consumed in the economy. Any change in the exchange rate will affect the types of goods and services produced and consumed.
The domestic inflation rate is also very important - an increase in inflation over time could remove all of the gains that a devaluation brings by making locally-produced goods relatively more expensive.
Typically, a country's balance of payments deficit tends to get worse immediately after a currency devaluation, since imports already contracted for and existing debt denominated in foreign currency become more expensive. However, once the prices of imports and exports adjust to the new currency exchange, the effects of the devaluation increase overseas demand for the country's goods, causing the economy to move into a balance of payments surplus. The 'j-curve' shows the lagged effect of monetary policy changes on the real economy, especially with regard to export and import pricing.
So whether a devaluation will help your business depends on whether it is exporting (Yes), importing (No) or producing and selling locally (probably Yes).
Q58. Why does every country have a central bank? What does it do?
The central bank in any country is its monetary authority. It usually is charged with:
• Implementing monetary policy.
• Ensuring the reserves of the country are accounted for.
• Printing the country's currency.
• Supervising private banks licensed by it to trade within the country.
The central bank is also used as a 'clearing house' for the private banks' transactions and loans.
Finally, if the country has an independent currency, the central bank implements the exchange rate policy of the country.
In Europe, the European Central Bank (ECB) exercises control over the monetary policy of the Eurozone. In particular, the ECB sees its job as promoting price stability throughout the Eurozone.
Q59. What is an economic and monetary union?
Economic and monetary union happens when two or more countries reduce their trade barriers (tariffs on imports) to zero, allow free movement of goods and services as well as capital and labour, and adopt a common regulatory regime and currency - for example, the European Union.
Economic and monetary union is a complex process, demanding a unified set of fiscal and monetary policies.
The benefits of economic and monetary union are lower transactions costs, increased trade, and a strong central bank to maintain low inflation. Among the costs of economic and monetary union are the lack of flexibility it gives member states when dealing with crises, as well as the potential for top-down 'policy straightjackets' that harm regional or national interests. To date, however, the largest economic and monetary union, the European Union, has continued on a slow path of integration between member states - to the betterment of them all.
