Macroeconomics
Factorsthatcauseanincreaseordecreaseinthedemandforacurrency,andconsequently,ashiftinits curve,primarilydependonothercountries'willingnesstobuygoods,services,andfnancialassetsfrom thiscountryusingitsnationalcurrency. Asweexplainthesefactors,wewillconsistentlyusethedemand for the U.S. dollar as an example.
● Foreign Demand for Domestic Goods andServices: When foreign households, frms, and governments wishtobuydomestically-producedgoodsandservices from a country (including tourism), they need to exchange their currency for the national currency of that country. Therefore, an increase in a country’s exports increases the demand for its currency and vice versa. For example, an increase in European demand for American smartphones increases the demand for the USD.
● Foreign Demand for Domestic Financial Assets: Similar to the foreign demand fordomestic goods and services, changes in the demandforacountry’sfnancialassets,suchasAmerican stocksandbonds,impactthedemandforthedomesticcurrency(e.g.,USD). AsmoreAmerican fnancial assets are demanded by Europeans, the demand for the USD increases, and vice versa. ● Foreign Investments: When foreign frms and householdsinvestinacountry,itincreasesthe demand for its currency, and vice versa. ● Changes in Foreign Incomes: When foreigners' incomes increase, it enhances their abilityto importfromothercountries.This,inturn,leadstoanincreaseddemandforacountry’sexports, andconsequently,anincreaseinthedemandforitscurrency,andviceversa. Forexample,when the incomes of European workers increase, they might increase the demand for American products, causing an increase in the demand for USD. ● QualityandPriceofDomesticProducts: Foreignersincreasetheirdemandfordomesticgoods andservices,andthus,forthedomesticcurrency,whenthequalityoftheproductsishigh,and the price level is relatively low. For instance, Europeans may prefer American cars when their quality is superior and their price is relatively lower than European cars. ● Domestic Real Interest Rates: A higher real interest rate relative to other countries make a country’s fnancial assets more attractive (higher return on investment). Consequently, ahigh interest rate encourages foreigners to purchase domestic fnancial assets increasing the demand for the domestic currency, andviceversa. Forexample,whenrealinterestratesinthe U.S. are higher than in European countries, Europeans will prefer to invest in American assets hence increasing the demand for USD. ● Speculation: Whenpeopleexpectacurrencytoappreciate(increaseinvalue),theywilldemand moreofit.Alternatively,whentheyexpectittodepreciate(decreaseinvalue),theywilldemand less of it.
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