At 09:26 AM 10/23/98 -0400, you wrote: More than once, I wrote: >>the Bank of Japan reduces the supply of money (perhaps via an open-market purchase of Japanese treasury bonds, though I don't know how they do monetary policy), driving up the interest rate on Yen-denominated assets.<< Frank writes:>Open market purchase of Japanese treasury bonds expands the supply of money, doesn't it?< thanks for catching the typo! Ellen writes: >I'm not sure what the origin of this line of discussion is, but it is now pretty well accepted, even in mainstream international finance, that the trading of currencies for the purposes of financing trade (yen for pounds to buy British sweaters) is largely irrelevant in determining exchange rates, at least for internationally traded currencies. The annual volume of currency traded exceeds the world volume of international trade by a factor of around 100. So whether the Japanese pay for their imports in yen, dollars, pounds or marks has little bearing on the value of the yen.< right. But I was trying to keep it simple, an effort which was partially defeated by the error noted above. >As Jim says, most exchange rate models regard the supply of currency as vertical. Price depends on shifts in demand, which can be caused by changes in interest rates, liquidity preference, speculative beliefs. A decline in exports can drive down the currency value if the decline is interpreted by currency traders as a sign to sell. On the other hand, massive trade deficits can be associated with an appreciating currency if traders are generally bullish on the country -- look at the U.S.< right! trade issues only affect exchange rates in the long run (several years) via purchasing power parity -- or via speculator expectations. It's trading in assets that's crucial in the short run, not trading in goods and services. (BTW, this is the basis for arguments against a purely-floating exchange rate system, a la Milton Friedman.) Jim Devine [EMAIL PROTECTED] & http://clawww.lmu.edu/Departments/ECON/jdevine.html
