The world, two years ago faced an economic setback when recession hit most of the countries in the world affecting the financial crises, the effects of the banking and mortgage problems are still being felt up to today. Governments are being bailed out to prevent spillover effects in neighboring countries like in Greece and Ireland. International trade was particularly affected as there was a major reduction in economic growth which has direct impact on international trade. There was a worldwide mass of employee layoffs and company failures from banks, car makers and mortgage giving companies.
This made governments to financially bail out these companies so as to avoid major national disastrous economic failures. This essay looks at current issues affecting international trade from a macroeconomic perspective and tends to focus on the topic of monetary policy effects on international trade. Its uses the United states of America monetary policy as an example as it is the biggest economy and any change in monetary policy policies in the United States usually affects other economies of the world as the united States is the biggest importer in the world.
Monetary policy has been defined as follows:
Monetary policy is defined as the regulation of the money supply and interest rates by a central bank, such as the Federal Reserve Board in the U.S, in order to control inflation and stabilize currency. Monetary policy is one the two ways the government can impact the economy. By impacting the effective cost of money, the Federal Reserve can affect the amount of money that is spent by consumers and businesses. This also affects the country’s ability to do international trade. (Investorword, 2010, p. 1)
International trade comprises the exchange of goods among the nations of the world. International trade can take the form of bilateral or multilateral. Bilateral international bilateral trade involves two countries exchanging goods and/or services while multilateral involves more than two countries involved in trading. International trade allows of trade allows for a greater competition and more competitive pricing in the market which results in more affordable products for the consumer. Hence, the exchange of goods also affects the economy of the world as dictated by supply and demand, making goods and services obtainable which may not otherwise be available to consumers globally (Business, 2011).
An interest rate is simply the fee often expressed in form of a percentage that is surcharged on the amount that is borrowed. The interest is the benefit which accrues to the lender. Banks are the most popular lenders of cash and the rate at which they charge for the money they lend is referred to as the interest rate (Business, 2011).
A statement of the current economic event or issue
Statement of the current economic event or issues on the monetary policy of a country and how this affects international trade, It shows how macroeconomic elements do affect international trade like interest rates and inflation to money supply which in turn do affect international trade.
Monetary policy adopted by an economic bloc has a huge bearing on the way that the economy of that bloc. Monetary policy can be implemented through various ways; the alteration of the interest rates that banks charge their customer is one of the monetary policies used around the world. For instance, increasing the interest rate for loans borrowed from commercial will have the implication of reducing the amount of funds in circulation as few people will be willing to take up loans. This unwillingness to take loans has a direct implication on the economy of the region in question. Loans are used for investment purpose in most cases implying that with less loans circulating then investment activities will be reduced and this of course will have a chain of effects such as unemployment (Trading Economics, 2011).
Calafia (2011) has analyzed the relationship between monetary policy and the prices of commodities. By using the prices of industrial metals the following chart was developed.
The author makes an observation that there was a slide in the prices of commodity starting from 1996. It is noted that this happened at a time when monetary policy was tight; this was shown by the real federal funds in the chart below:
The following conclusion is drawn by Calafia (2011) concerning monetary policy and price of commodities “monetary policy has had a very important influence on commodity prices. As long as monetary policy remains accommodative, commodity prices are likely to continue to rise, especially if the U.S. and global economies continue to gain strength” (Calafia, 2011, p. 1).
It has been noted that the correlation between loans and investment activities have made the interest rate to be such an important monetary policy. By controlling varying the interest rate up or down the momentum of investment projects varied directly proportionally. As noted above, this implies that factors such output of products, availability of jobs will be affected and consequence will run down to the extent of affecting the living standards of people living in the region in question. Availability of betters goods and services will be depend of the availability of the suppliers and if the suppliers do not access the funds that they need to service their businesses then such goods and services will not be available. The interest rate has been pointed out to even have some significance in the stock market where those who have stocks tend to spend freely.
The knowledge of monetary policy therefore is quite significant as it affects the very daily activities that we undertake. It has also been shown that monetary policy affects the inflation. This happens when the policy adopted has the tendency of stimulating the demand. It has also been pointed out that there is a likelihood of people raising the inflation due to speculation about inflation in the future which may be brought about by the monetary policy undertaken by a government at a present time especially when the monetary policy is eased (Federal Reserve, 2011).
The Federal Reserve monetary policy has mostly focused on the local economy, however international factors have not been put aside, and they have been second to domestic concerns as every regulating authority focuses on its borders as there is no international regulatory border.
Why the USA monetary policy is important
To simply understand how the current policies of monetary policy mostly in the USA affect international trade, we briefly review the evidence suggesting that changes in Federal Reserve monetary policy have implications for both emerging markets and the global economy. The United States monetary policies are being used as a case study to understand applications of macroeconomic theories in international trade. When the U.S economy coughs, every country gets a fever and that’s why choosing U.S is very important.
The Federal Reserve plays a significant role at the international level. It should be noted that with the globalization wave ever increasing in strength, capital is continues becoming mobile as different regions increasingly become integrated financially. The increasing mobility of capital and integration of different economic blocs have a number of implications. The most definite implication is that of the creation of open economic trading blocs implying that a change in monetary policy in given region will be felt in different regions which are connected to the region in question. This implies that as the integration intensifies it becomes easy for the effects of a change in monetary policy to be felt elsewhere after being initiated in a one of the blocs.
The monetary system does also affect the exchange rate and thus by default it also affect international trade especially for the countries that trade with the region in question that is the one changing the monetary policy. The US is a trading bloc that is connected to so many trading blocs. Basing on the above argument then it is very correct to claim that the US monetary policy has a significant bearing on international trade (Keleher, 2010).
Obstfeld (2010) has presented some ideas on the issue: he argued that it not possible for a nation to achieve open capital markets and at the same time have its exchange rates stabilized. In what he referred to as “open –economy trilemma” (Obstfeld, 2010, p. 1) Obstfld (2010) claimed that some limits are witnessed open capital markets considered in the context of “monetary policy and exchange rate” (Obstfeld, 2010, p. 1)
Interest rate and exchange rate have shown some correlation, for instance, when the interest rate is left without being controlled in any manner, the exchange rate becomes controllable and vice versa. To correct this capital is mobilized so that a crisis of either too much control of the interest rate and exchange rate is brought to light.
It has been argued that in the modern times, nations are moving towards the tendency of controlling exchange rates as opposed to interest rates. The US monetary policy, due to the fact the US of the dollar currency global in international transactions has proved to be very vital in international trade. Therefore, the dollar being depended on largely at international trade, there is a need to keep it stable. There have been expressions of desire to have one international unit of currency for the purpose of carrying out international transactions. This need arises because of the desire to have a stable currency which can make international trade predictable.
It is however pointed out that the dollar has played this role continuously and to some extent with much success (Keleher, 2010, p. 1). It can be argued out that this is reason for the ever increasing popularity of the dollar. The ability of the dollar to have maintained stability over a longer period of time has made it a currency of choice in international trade. Also the dollar still provides the major roles of international money and thereby remains the dominant international reserve currency.
The Federal Reserve has to ensure that there is a continuous supply of the dollar currency to serve the within the US market as well as other regions where it is required. The Federal Reserve therefore can be said to be vital in ensuring that international transactions are carried out smoothly; the reserve can be thus said to be assisting in sustaining stability at the global market (Keleher, 2010).
Going by the fact the dollar is being continuously and increasingly used as the currency of choice for international transaction, and then the Federal Reserve has to go an extra mile in ensuring that the dollar fits well in this shoe. For instance, it has been pointed out that the Federal Reserve should keep a close eye on the price signals and be quick to offer “a stabilizing price anchor for the current fiat money system” (Keleher, 2010, p. 1).
It has also been pointed out the Federal Reserve needs to be very to the economic times especially when tightening or losing monetary policy. This is because it has been shown that other central banks are likely follow suite in reference to the actions of the Federal Reserve on the issue of monetary policy regulation and thus a mistake by the Federal Reserve is likely to be repeated by central banks (Keleher, 2010, p. 1)
It has been pointed out that the Federal Reserve undertakes other roles such as being the lender of the last resort. It has also been noted that among the emerging trading blocs the dollar is being adopted as the currency of use in preference to local currency. It has been shown that this emerging practice of adopting the dollar is common in the Latin America region. It has been shown that the amount of dollar with the hand of non Americans is quite significant. Actually it has been estimated that more than fifty percent of the dollars in circulation are not within the hands of the Americans but rather among the foreigners. With such kind of statistics it is very evident that monetary policy that the Federal Reserve chooses to pursue will have major impact outside the US. This may bring about stability or instability at the international market (Keleher, 2010, p. 1)
Good application of expansionary and contractionary monetary and fiscal policies at an appropriate time to influence interest rates so that they can affect exchange rates, borrowing rates and lending rates and also price levels are very important. The Federal Reserve has taken up the task of smoothening international transaction by ensuring that the dollar interest rate does not fluctuate unnecessarily. This is very significant taking into consideration that fluctuating dollar rates will make it very hard to seal international deals which are mostly transacted in form of dollars. The dollar stability will make profits more certain and will instill confidence in international business.
As every country recovers from the global recession, countries that utilize macroeconomic elements well, stand to gain a lot from international trade. A good example is China which was not affected negatively during by the global banking crises that led to huge job layoffs and slows economic growth that could not match expected national demand. Governments all over the world have to work towards stable macroeconomic elements so as to maintain international trade as it is very important in every country’s growth and political stability. Good monetary policies always ensure that there is a stable international flow of goods and services internationally in the world. The Federal reserve has played a significant role of ensuring that international business takes place and runs smoothly by ensuring that the stability of the dollar is averagely reliable.
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