The likely implications of a large country engaging in loose monetary Essay

The likely implications of a large country engaging in loose monetary policy for exchange rates - Essay Example The central banks of the economies play a pivotal role in the economic systems for prescribing the monetary policies in the respective nations. The fiscal authorities are in turn checked by the governments of different nations (Gerlach and Wensheng, 2004). In order to efficiently trade in the global economies, the countries in the modern economies use the purchasing power parity conditions to analyze the relative worth of different currencies in an economy. Exchange rate is the modern jargon used by the contemporary economies to judge the terms of trade conditions of nation. This essay will show how the monetary authorities of large economies in the modern world have liberalized or loosened their economies in order to adjust their exchange rates according to the market and sustain a favourable value of their terms of trade in the long run (Keohane, 2013). Situation Analysis Exchange Rate Issues Exchange rates are the rate that defines the value of the currency of a country in terms o f the value of the currency of another country. Exchange rates are either measured in nominal or are measured in real terms. In real terms, it is the ratio of the aggregate price level in the foreign economy to the value of the aggregate price level in the home currency. ... On the other hand, the goods and services available in the foreign markets tend to become expensive to the country. In such situations, the exports of the country become cheaper in terms of value than the imports. The country would demand for less foreign exchange (lesser imports) and possesses an excess supply of the foreign exchange (higher exports). This would thus induce the price of the value of the exchange rate (supply > demand) in the market to fall. A fall in the exchange rate would actually imply the fall in the value of currency of a nation in terms of the currency of another country. Thus in the modern world, monetary authorities constantly try to manipulate and keep the exchange rates suitable to the economic environment of the respective nations (GBM, 2013). Macroeconomic Imbalances The countries in the contemporary world are found to have macroeconomic imbalance conditions. The causes behind the imbalances have been associated with both the internal and external affair s of economies. In some nations like Netherlands, the economy is facing high surplus in the current account but the household debt of the country is increasing at a rapid rate. Moreover, the property bubble (rise in the real estate prices) in the economies of Spain, U.S., Ireland etc have resulted in the heightening of the level of government debt and crisis in the economy. Since 2009, the global financial crisis in the economies of the western world has created a trickledown effect in the less developed economies in the world like India, Brazil etc. As after the emergence of globalization and liberalization, economies in the contemporary world have become entangled with each other. Thus, the macroeconomic imbalances in the form of